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The International
Capital Markets Review
Law Business Research
Fifth Edition
Editor
Jeffrey Golden
[ Exclusively for: bibitayo mimiko | 02-Dec-15, 02:43 PM ] ©The Law Reviews
The International Capital Markets Review
The International Capital Markets ReviewReproduced with permission from Law Business Research Ltd.
This article was first published in The International Capital Markets Review - Edition 4(published in November 2015 – editor Jeffrey Golden)
For further information please [email protected]
The International
Capital Markets Review
Fifth Edition
EditorJeffrey Golden
Law Business Research Ltd
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i
The publisher acknowledges and thanks the following law firms for their learned assistance throughout the preparation of this book:
AFRIDI & ANGELL LEGAL CONSULTANTS
ALLEN & OVERY LLP
BBH, ADVOKÁTNÍ KANCELÁŘ, S.R.O.
BHARUCHA & PARTNERS
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DE PARDIEU BROCAS MAFFEI
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GORRISSEN FEDERSPIEL
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ACKNOWLEDGEMENTS
Acknowledgements
ii
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iii
Editor’s Prefaces ..................................................................................................viiJeffrey Golden
Chapter 1 AUSTRALIA .............................................................................. 1Ian Paterson
Chapter 2 BRAZIL ................................................................................... 22Ricardo Simões Russo, Gustavo Ferrari Chauffaille and Luiz Felipe Fleury Vaz Guimarães
Chapter 3 BULGARIA ............................................................................. 31Viktor Tokushev
Chapter 4 CHINA .................................................................................... 42Xusheng Yang
Chapter 5 COLOMBIA............................................................................ 58Camilo Martínez Beltrán and Veronica Umaña
Chapter 6 CZECH REPUBLIC ............................................................... 68Tomáš Sedláček and Zdeněk Husták
Chapter 7 DENMARK ............................................................................. 81Rikke Schiøtt Petersen, Morten Nybom Bethe, Anton Malling Mikkelsen and Jakob Gregers Andersen
Chapter 8 FINLAND ............................................................................... 92Juha Koponen, Janni Hiltunen and Laura Vaelitalo
Chapter 9 FRANCE ............................................................................... 101Antoine Maffei and Olivier Hubert
CONTENTS
iv
Contents
Chapter 10 GERMANY ........................................................................... 127Kai A Schaffelhuber
Chapter 11 INDIA ................................................................................... 137Vishnu Dutt U
Chapter 12 INDONESIA ......................................................................... 147Yozua Makes
Chapter 13 IRELAND.............................................................................. 160Nollaig Murphy
Chapter 14 ITALY .................................................................................... 179Marcello Gioscia and Gianluigi Pugliese
Chapter 15 JAPAN ................................................................................... 194Akihiro Wani and Reiko Omachi
Chapter 16 KAZAKHSTAN .................................................................... 208Shaimerden Chikanayev and Marina Kahiani
Chapter 17 KUWAIT ............................................................................... 234Abdullah Al Kharafi and Abdullah Alharoun
Chapter 18 LUXEMBOURG ................................................................... 245Frank Mausen and Henri Wagner
Chapter 19 MEXICO ............................................................................... 268René Arce Lozano and Lucía Báez de Hoyos
Chapter 20 NETHERLANDS ................................................................. 278Mariëtte van ’t Westeinde and Martijn Schoonewille
Chapter 21 NEW ZEALAND .................................................................. 293Deemple Budhia and John-Paul Rice
v
Contents
Chapter 22 NIGERIA ............................................................................... 303Fred Onuobia and Bibitayo Mimiko
Chapter 23 PERU ..................................................................................... 314Juan Luis Avendaño C and Nydia Guevara V
Chapter 24 PHILIPPINES ....................................................................... 325Maria Teresa D Mercado-Ferrer, Joan Mae S To and Earla Kahlila Mikhaila C Langit
Chapter 25 PORTUGAL .......................................................................... 342Orlando Vogler Guiné and Sandra Cardoso
Chapter 26 RUSSIA .................................................................................. 355Vladimir Khrenov
Chapter 27 SOUTH AFRICA .................................................................. 370Clinton van Loggerenberg and Stephen von Schirnding
Chapter 28 SPAIN .................................................................................... 381David García-Ochoa Mayor and Daniel Pedro Valcarce Fernández
Chapter 29 TANZANIA ........................................................................... 393Kamanga Wilbert Kapinga and Kenneth Mwasi Nzagi
Chapter 30 TURKEY ............................................................................... 399Umut Kolcuoğlu, Damla Doğancalı and Begüm İnceçam
Chapter 31 UNITED ARAB EMIRATES ................................................ 408Gregory J Mayew and Silvia A Pretorius
Chapter 32 UNITED KINGDOM .......................................................... 421Tamara Box, Ranajoy Basu, Nick Stainthorpe, Caspar Fox, Roy Montague-Jones, Jacqui Hatfield and Winston Penhall
Contents
vi
Chapter 33 UNITED STATES ................................................................ 445Mark Walsh and Michael Hyatte
Appendix 1 ABOUT THE AUTHORS .................................................... 463
Appendix 2 CONTRIBUTING LAW FIRMS’ CONTACT DETAILS .. 485
vii
EDITOR’S PREFACE TOTHE FIFTH EDITION
A review of the Editor’s Prefaces from prior editions (which the publishers have kindly included in this volume) of The International Capital Markets Review will reveal a common thread: what I referred to last time around as ‘a somewhat nervous look-back over the shoulder’ both at the global financial crisis (GFC) and the impact that it has had on the professional opportunities and workload of international capital markets lawyers.
That should hardly be surprising. Seven years on from the collapse of Lehman Brothers in September 2008 and nearly four years since the first edition of this review appeared, a great deal of ink has been spilt, so to speak, in recording the lessons of the GFC, much of it reflecting an attempt to focus on what brought the crisis about: risk-taking by bankers, blind spots and lack of understanding on the part of regulators, rating agencies asleep at the wheel and wrong economic incentives from policymakers and management.
Lots of answers with hindsight. (But as Queen Elizabeth II profoundly asked, after having been briefed by a group of academics about the causes of the GFC when opening a building at the London School of Economics in 2008, if it was all so obvious how come everyone missed it?)
Again, none of that should be surprising. But what is certainly interesting, if not surprising, is that with all the finger-pointing – bankers, regulators, rating agencies and policymakers – law firms and lawyers in them have emerged relatively unscathed. There has been no shortage of lawsuits, enforcement actions, penalty fines, and most recently criminal prosecutions for financial market misconduct. However, it has been non-lawyers, and not their counsel, who have found themselves in the hot-seat.
Still, that begs, rather than answers, the question, ‘What was, or should have been, the role of the lawyer in mitigating the risk of a financial market meltdown?’ Was sufficient resort to outside counsel made by financial institutions in the run-up to the GFC? Would greater utilisation of independent counsel have made a difference? What public responsibility, if any, do international capital markets lawyers have to ensure not just that underlying transactions are legal as a matter of positive law but that the financial marketplace is benefited, and financial market stability not threatened, by them? Until now, these are questions that seem to travel mostly beneath the radars of the financial market commentators who have been reflecting on the GFC.
Editor’s Preface to the Fifth Edition
viii
Let us put to one side for a moment the increasing specialism in our area of law and the special challenges that follow from it – I will return to this. Let us leave aside too the fact that the technical skills that may position an international capital markets (ICM) lawyer so as to be able to structure a transaction and render the required legal opinions on enforceability or tax consequence may not qualify that lawyer to assess the business merits of the transaction, give deep knowledge of the customers who sign up to them or provide the necessary context to assess the macro-finance impact of large-scale development of a particular financial product or service. In either case, two questions remain: Can ICM lawyers do a better job to mitigate financial market systemic risk? And, if a more expansive role for the lawyer is to be expected to achieve this, will clients be prepared to pay for it?
It is interesting, is it not, that in what could be argued to have been their earlier ‘glory years’, financial institutions did rely heavily on outside counsel to keep on the legal straight and narrow. However, there is much evidence to suggest that there was much greater reliance on in-house teams in 2008 following the considerable build-out of these in the preceding decade. Cost-cutting became the ‘buzz word’.
Did that institutional ring-fence, however, heighten the risk of seeing everything through too narrow an institutional prism? Gillian Tett, in her excellent new book The Silo Effect,1 reminds us of the major risk of insular groupthink in an age of increased specialisation.
Seeking outside and independent advice on such matters had been seen as a kind of insurance against that. Of course, that insurance was never thought to be cheap. But was it cheap in fact, at least when compared with the penalties, fines and other conduct costs many financial institutions have paid since the GFC? And did the financial institutions in any way connect the cutbacks in legal spend on independent counsel with the GFC? Here’s the paradox: the more that lawsuits and enforcement actions have followed in the wake of the GFC, the greater the pressures seem to have been to reduce the budget for independent legal advice in connection with ongoing transactional work. And those pressures continue.
Still, to change our clients’ thinking about legal cost-cutting, ICM lawyers must do two things: first, they must avoid giving the impression themselves of being victims of the silo effect. And for many ICM lawyers in modern practice there is similarly the risk both of the silo of their law firm and the silo of their jurisdiction. Failure to share the expertise of lawyers in different law firms and from different jurisdictions can be catastrophic. In this regard, The International Capital Markets Review aims to be what Ms Tett would call a ‘silo buster’.
And second, important as it may be to demonstrate value added by being aware of the widest possible range of relevant issues and global market practice, it is important too to get there in as cost-efficient a manner as possible. As has just been noted, this is a time when clients have never been more cost-conscious. Since it first appeared, this publication has sought to reduce the costs of staying current in a rapidly changing,
1 G Tett, The Silo Effect (Little, Brown 2015).
Editor’s Preface to the Fifth Edition
ix
multi-jurisdictional and expansive area of practice by bringing a wide range of relevant experience within a single volume and constantly updating its content.
As I write this preface, my morning newspaper reports, in addition to bond funds experiencing record inflows, that US$50 billion of global market deals were announced this week, adding to US$300 billion of M&A activity in a record August and more than US$3 trillion since January – keeping things on track for record levels seen only before the GFC. This is all good news for international capital markets lawyers. Plenty of opportunity.
Still, plenty of risk too, especially for any lawyer living in a silo and looking down instead of around. This is not a time to follow the ostrich and its habit of putting its head down when it senses risk in the air.2 For today’s ICM lawyer, the risk comes from a complicated and ever-changing landscape, and not least the plethora of new regulatory developments and regulations reported in the pages that follow. You constantly need to look about you.
So, heads up, bust out of that silo, get your copy of this new edition of The International Capital Markets Review at the ready and share in the expertise that follows. Fingers crossed, may the record year continue, and I wish our readers more than their fair share of it!
In the meantime, I tip my hat once again to the impressive and growing group of experts who have taken on the challenge of this book. This year we welcome five new jurisdictions: Bulgaria, India, Kazakhstan, Mexico and Nigeria. I want to thank all our authors sincerely for their contributions and for allowing me the continuing privilege of serving as their editor.
Jeffrey GoldenP.R.I.M.E. Finance FoundationThe HagueNovember 2015
2 Pliny the Elder had led us to believe that the ostrich buries its head in sand to avoid danger, but we now know the behaviour of the ostrich is more a matter of ‘duck and cover’.
x
EDITOR’S PREFACE TOTHE FOURTH EDITION
It is good of the publishers to include in this volume the Editor’s Preface to each of the previous editions of The International Capital Markets Review. Reading through these is like an archaeological dig.
The first begins with a somewhat nervous look-back over the shoulder at the then-recent financial crisis. An expression in that preface of admiration for the ‘resilience’ of the markets sounded at the time more a hope and expectation than a certainty or done deal.
In the second, further signs that a ‘big freeze’ on capital market transactional work was ‘thawing’ were noted; however, the challenge of new and voluminous regulation, as much as the potential for deal flow, made this publication of particular relevance when that edition appeared.
By the time the third preface was written, the major global financial institutions were hiring again, but we were still looking for hard evidence or ‘confirmation’ that an uptick in deal flow lay ahead and that the extra staffing was in anticipation of opportunity rather than more simply a reaction to a compliance burden.
Now, as I put pen to this Editor’s Preface to the fourth edition of the work, we have just witnessed the successful launch of the world’s largest-ever stock flotation. Alibaba shares soared 39 per cent on the first day of trading and, after the bankers exercised a greenshoe option, raised US$25 billion. Meanwhile, The Times reports a buoyant London braced for a ‘listing stampede’. Hong Kong is rivalling New York for the greatest number of cross-border deals. The Financial Times also reminds us that in fact, measured by deal value, year-to-date listings in New York have raised twice as much as in London and Hong Kong combined – the fastest pace since 2000. A corner turned? Hopefully, we are seeing real opportunity, at least for the informed ICM lawyer. As in the past, this book seeks to keep at the ready for just such an ICM lawyer relevant analysis as a means for staying on top of an ever-expanding flow of necessary information.
New capital market regulation increases exponentially, and often purports to have extraterritorial reach. More than half of the Dodd-Frank rulemakings have now been finalised but nearly a quarter of the rulemaking requirements are still yet to be proposed. This past year has also been a busy period for regulatory reform at the European level and in other key jurisdictions covered in this volume. Notably as well, courts around the world have been building up a significant jurisprudence in disputes involving complex products and other capital market structures. We have almost certainly seen more ISDA
Editor’s Preface to the Fourth Edition
xi
contract cases since this book first appeared than in all the years that preceded that first edition put together.
Not surprisingly then, this volume keeps getting ‘fatter’. Soon the publishers will have to provide wheels for the book! What started as coverage of 19 relevant jurisdictions, now surveys 33 – five of which (Colombia, Kuwait, Norway, Peru and Portugal) are included for the first time.
There has, however, certainly been no dilution in the quality of contributions. Someone clever once said that you are only as good as the company that you keep, on which basis the reader can feel very good indeed when turning to the lawyers and law firms that share their collective experience in the pages that follow. It remains a privilege and an honour to serve these contributors as their editor.
I am confident that the latest surveys that follow will prove useful to our practitioner readers, and I will not be surprised if a few legal archaeologists among those get to excavating beyond the prefaces and examine the strata of the jurisdictional landscapes of earlier editions as they aim to equip themselves for their professional journeys ahead. Who knows? One of you may even be an Indiana Jones, who, armed with the information herein, may be tempted to grab that bullwhip and fedora and undertake a particularly ground-breaking transactional adventure or two. Indeed, it may even be that those adventures form part of the ICM story when it gets told in future editions of The International Capital Markets Review !
Jeffrey GoldenP.R.I.M.E. Finance FoundationThe HagueNovember 2014
xii
EDITOR’S PREFACE TOTHE THIRD EDITION
As I write the preface to this third edition of The International Capital Markets Review, my morning newspaper reports that one of the major global banks, having shrunk its workforce by more than 40,000 employees over the past two years, will now embark on a hiring spree to add at least 3,000 additional compliance officers.
It would be nice if the creation of these new jobs evidenced new confidence that capital markets activity is on the rise in a way that will justify more hands on deck. In other words, capital markets lawyers will have something to celebrate if this bolstering of the ranks was thought necessary to ensure that requisite regulatory approvals and transactional paperwork would be in place for a projected expansion in deal flow.
And, indeed, my morning newspaper also reports a new transaction of some significance, namely, Twitter’s filing for a multi-billion dollar international public offering, accompanied by a tweet, of course – but with a true sign-of-the-times disclosure: ‘This Tweet does not constitute an offer of any securities for sale’!
Yes, confirmation of an uptick in deal flow – especially ‘big deals’ flow – would be nice. In the preface to the last edition of this work, I speculated that there were ‘signs that any ‘big freeze’ on post-crisis capital markets transactional work may be thawing’. All the better if the current newspaper reports provide continued and further support for that inference. After all, when our first edition appeared a little over two years ago, the newspapers were saying terrible things about the capital markets.
What is more likely, however, is that this increased staffing aims to cope with regulatory complexity that will now impact the financial markets regardless of any growth and perhaps may even have been designed to slow down the business being done there. That complexity, but also just the scale of recently promulgated new regulation and the practitioner’s resulting challenge in ‘keeping up’ have all encouraged this new third edition. The 8,843 pages of Dodd-Frank rule-making that I reported in my preface to the last edition have now grown to more than 14,000 pages at this time of writing – and approximately 60 per cent of the job remains unfinished. Other key jurisdictions have been catching up. Plus the rules are purposive and aim to change the way things have been done. If compliance and even ethics in the capital markets were ever instinctual, rather than matters to be taught and studied, that is probably a thing of the past.
Editor’s Preface to the Third Edition
xiii
The thickness of this volume has grown as well because of the increased number of pages and coverage in it. Nine new contributors (Finland, Indonesia, Italy, the Netherlands, the Philippines, Spain, Switzerland, Tanzania and the UAE) and an overview of EU Directives have been added. Banks are lending less to corporates, which in turn are having to issue more to meet liquidity needs. Moreover, with the low interest rate environment of quantitative easing, central banks are encouraging risk-taking rather than hoarding. For investors, risk-free assets have become very expensive. So we see a growing willingness to get off the traditional highway in search of yield. Investment banks are, as a result, often taking their clients (and their clients’ regular outside counsel) to difficult, or at least less well-known, geographies.
Having a pool of country experts and jurisdictional surveys that facilitate comparative law analysis can be very helpful in this instance. That is exactly what this volume aims to provide: a ‘virtual’ legal network and global road map to help the reader navigate varying, and increasingly difficult, terrain to arrive at right places.
There has been much relevant change in the legal landscape surveyed in the pages that follow. However, what has not changed is our criteria for authors. The invitation to contribute continues to go to ‘first in class’ capital market specialists from leading law firms. I shall be glad if, as a result, the biographical notes and contact details of the contributing firms prove a useful resource as well.
The International Capital Markets Review is not a novel. Impressed I might be, but I would certainly also be surprised by anyone picking up and reading this volume from cover to cover. What I expect instead, and what is certainly the publisher’s intention, is that this work will prove a valuable resource on your shelf. And I hope that you will have plenty of opportunities to take it off the shelf and lots of excuses to draw on the comparative jurisdictional wisdom it offers.
Let me again express my sincere gratitude to our authors for their commitment to the task and their contributions. It remains a privilege to serve as their editor and a source of great pride to keep their company in the pages of this book.
Jeffrey GoldenP.R.I.M.E. Finance FoundationThe HagueOctober 2013
xiv
EDITOR’S PREFACE TOTHE SECOND EDITION
It was my thought that we should also include in this second edition of The International Capital Markets Review my preface to the first edition. Written less than a year ago, it captures relevant background and sets out the rationale for this volume in the series. The contemporary importance of the global capital marketplace (and indeed you must again admire its resilience), the staggering volume of trading and the complexity of the products offered in it, and the increased scrutiny being given to such activity by the courts all continue. And, of course, so does the role of the individual – the difference that an informed practitioner can make in the mix, and the risk that follows from not staying up to date.
However, I was delighted, following the interest generated by our first edition, by the publisher’s decision to bring out a second edition so quickly and to expand it. There were several reasons for this. The picture on the regulatory front is much clearer for practitioners than it was a year ago – but no less daunting. According to one recent commentary, in the United States alone, rule-making under the Dodd-Frank report has seen 848 pages of statutory text (which we had before us when the first edition appeared) expand to 8,843 pages of regulation, with only 30 per cent of the required regulation thus far achieved. Incomplete though the picture may look, the timing seems right to take a gulp of what we have got rather than wait for what may be a very long time and perhaps then only to choke on what may be more than any one person can swallow in one go! Regulatory debate and reform in Europe and affecting other key financial centres has been similarly dramatic. Moreover, these are no longer matters of interest to local law practitioners only. Indeed, the extraterritorial reach of the new financial rules in the United States has risen to a global level of attention and has been the stuff of newspaper headlines at the time of writing.
There are also signs that any ‘big freeze’ on post-crisis capital markets transactional work may be thawing. In the debt markets, the search for yield continues. Equities are seen as a potential form of protection in the face of growing concerns about inflation. Participants are coming off the sidelines. Parties can be found to be taking risks. They are not oblivious to risk. They are taking risks grudgingly. But they are taking them. And derivatives (also covered in this volume) are seen as a relevant tool for managing that risk.
Editor’s Preface to the Second Edition
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Most importantly, it is a big world, and international capital markets work hugs a bigger chunk of it than do most practice areas. By expanding our coverage in this second edition to include six new jurisdictions, we also, by virtue of three of them, complete our coverage of the important BRIC countries with the addition of reporting from Brazil, Russia and China. Three other important pieces to the international capital markets puzzle – Belgium, the Czech Republic and New Zealand – also fall into place.
The picture now on offer in these pages is therefore more complete. None of the 24 jurisdictions now surveyed has a monopoly on market innovation, the risks associated with it or the attempts to regulate it. In light of this, international practitioners benefit from this access to a comparative view of relevant law and practice. Providing that benefit – offering sophisticated business-focused analysis of key legal issues in the most significant jurisdictions – remains the inspiration for this volume.
As part of the wider regulatory debate, there have been calls to curtail risk-taking and even innovation itself. This wishful thinking seems to miss the point that, if they are not human rights, risk-taking and innovation are hardwired into human nature. More logical would be to keep up, think laterally from the collective experience of others, learn from the attention given to key issues by the courts (and from our mistakes) and ‘cherry-pick’ best practices wherever these can be identified and demonstrated to be effective.
Once again, I want to thank sincerely and congratulate our authors. They have been selected to contribute to this work based on their professional standing and peer approvals. Their willingness to share with us the benefits of their knowledge and experience is a true professional courtesy. Of course, it is an honour and a privilege to continue to serve as their editor in compiling this edition.
Jeffrey GoldenLondon School of Economics and Political ScienceLondonNovember 2012
xvi
EDITOR’S PREFACE TOTHE FIRST EDITION
Since the recent financial markets crisis (or crises, depending on your point of view), international capital markets (ICM) law and practice are no longer the esoteric topics that arguably they once were.
It used to be that there was no greater ‘show-stopper’ to a cocktail party or dinner conversation than to announce oneself to be an ICM lawyer. Nowadays, however, it is not unusual for such conversations to focus – at the initiation of others and in an animated way – on matters such as derivatives or sovereign debt. Indeed, even taxi drivers seem to have a strong view on the way the global capital markets function (or at least on the compensation of investment bankers). ICM lawyers, as a result, can stand tall in more social settings. Their views are thought to be particularly relevant, and so we should not be surprised if they are suddenly seen as the centre of attention – ‘holding court’, so to speak. This edition is designed to help ICM lawyers speak authoritatively on such occasions.
In part, the interest in what ICM lawyers have to say stems from the fact that the amounts represented by current ICM activities are staggering. The volume of outstanding over-the-counter derivatives contracts alone was last reported by the Bank for International Settlements (BIS) as exceeding US$700 trillion. Add to this the fact that the BIS reported combined notional outstandings of more than US$180 trillion for derivative financial instruments (futures and options) traded on organised exchanges. Crisis or crises notwithstanding, ICM transactions continue apace: one has to admire the resilience. At the time of writing, it is reported that the ‘IPO machine is set to roar back into life’, with 11 flotations due in the United States in the space of a single week. As Gandhi said: ‘Capital in some form or another will always be needed.’
The current interest in the subject also stems from the fact that our newspapers are full of the stuff too. No longer confined to the back pages of pink-sheet issues, stories from the ICM vie for our attention on the front pages of our most widely read editions. Much attention of late has been given to regulation, and much of the coverage in the pages of this book will also report on relevant regulation and regulatory developments; but regulation is merely ‘preventive medicine’. To continue the analogy, the courts are our ‘hospitals’. Accordingly, we have also asked our contributors to comment on any lessons to be learned from the courts in their home jurisdictions. Have the judges got it right? Judges who understand finance can, by fleshing out laws and regulations and applying them to
Editor’s Preface to the First Edition
xvii
facts perhaps unforeseen, help in the battle to mitigate systemic risk. Judges who do not understand finance – given the increase in financial regulation, the amounts involved, and the considerable reliance on standard contracts and terms (and the need therefore for a uniform reading of these) – may themselves be a source of systemic risk.
ICM lawyers are receiving greater attention because there is no denying that many capital market products that are being offered are complex, and some would argue that the trend is towards increasing complexity. These changing financing practices, combined with technological, regulatory and political changes, account for the considerable challenge that the ICM lawyer faces.
ICM activity by definition shows little respect for national or jurisdictional boundaries. The complete ICM lawyer needs familiarity with comparative law and practice. It would not be surprising if many ICM practitioners felt a measure of insecurity given the pace of change; things are complex and the rules of the game are changing fast – and the transactions can be highly technical. This volume aims to assuage that concern by gathering in one place the insights of leading practitioners on relevant capital market developments in the jurisdictions in which they practise.
The book’s scope on capital markets takes in debt and equity, derivatives, high-yield products, structured finance, repackaging and securitisation. There is a particular focus on international capital markets, with coverage of topics of particular relevance to those carrying out cross-border transactions and practising in global financial markets.
Of course, ICM transactions, technical though they may be, do not take place in a purely mechanical fashion – a human element is involved: someone makes the decision to structure and market the product and someone makes the decision to invest. The thought leadership and experience of individuals makes a difference; this is why we selected the leading practitioners from the jurisdictions surveyed in this volume and gave them this platform to share their insights. The collective experience and reputation of our authors is the hallmark of this work.
The International Capital Markets Review is a guide to current practice in the international capital markets in the most significant jurisdictions worldwide, and it attempts to put relevant law and practice into context. It is designed to help practitioners navigate the complexities of foreign or transnational capital markets matters. With all the pressure – both professional and social – to be up to date and knowledgeable about context and to get things right, we think that there is a space to be filled for an analytical review of the key issues faced by ICM lawyers in each of the important capital market jurisdictions, capturing recent developments but putting them in the context of the jurisdiction’s legal and regulatory structure and selecting the most important matters for comment. This volume, to which leading capital markets practitioners around the world have made valuable contributions, seeks to fill that space.
We hope that lawyers in private practice, in-house counsel and academics will all find it helpful, and I would be remiss if I did not sincerely thank our talented group of authors for their dedicated efforts and excellent work in compiling this edition.
Jeffrey GoldenLondon School of Economics and Political ScienceLondonNovember 2011
1
Chapter 1
AUSTRALIA
Ian Paterson1
I INTRODUCTION
Australia has vibrant, professional and well-regulated capital markets that are increasingly open to foreign issuers.2 Australia ranked fifth among the world’s leading financial systems and capital markets in the 2012 Financial Development Report published by the World Economic Forum.3
The most recent data from the Australian Trade Commission indicates that Australia’s capital market comprises, inter alia:a the second-largest free-floating stock market in the Asia-Pacific region and the
eighth-largest globally;b the second-largest equity capital market in Asia-Pacific and the fifth-largest
globally;
1 Ian Paterson is a senior partner at King & Wood Mallesons. This chapter is based on the previous edition prepared by Greg Hammond and Rowan Russell, both recently retired partners of King & Wood Mallesons. The author would like to acknowledge the assistance of Lauren Enright, a solicitor at King & Wood Mallesons, in updating the chapter.
2 By way of example, the amount of long-term non-government debt securities issued in Australia by non-residents, which include foreign governments and their agencies, international and supranational organisations, and a range of foreign financial institutions and companies (the ‘kangaroo’ bond market), has increased from A$8.9 billion to A$151 billion in bonds outstanding over the 13 years to June 2013 – a compound annual growth rate of 24 per cent.
3 The report defines financial development as the factors, policies, and institutions that lead to effective financial intermediation and markets, as well as deep and broad access to capital and financial services. Seven measures of financial development are identified in the report which is available online at www.weforum.org.
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c the world’s eighth-largest foreign exchange market; andd the second-largest superannuation (retirement savings) industry in Asia-Pacific,
and, by some measures, the fourth-largest globally.4
i Structure and regulation
Australia is a federation with three different levels of government: Commonwealth (or federal), state and territory, and local (or municipal). As a general rule, Commonwealth legislation governs access to, and the operation and supervision of, Australia’s capital markets. Under the Constitution, the Commonwealth has power to legislate in relation to, among other matters, corporations, interstate and international trade and commerce, taxation, banking and insurance. Australia has an independent judicial system that reflects the constitutional division of powers between the Commonwealth government and the state and territory governments.
The broad framework for the regulation of the financial sector, including Australia’s capital markets, is determined by the Commonwealth government. The issuance and trading of debt and equity securities, derivatives, securitisation and other financial products is primarily governed by Chapters 6D and 7 of the Corporations Act 2001 of Australia (which applies throughout the country), as well as by the common law and principles of equity.5
Under the Corporations Act, the term ‘financial product’ is defined in general terms, and there are specific inclusions and exclusions. The general definition is that a ‘financial product’ is any facility through which a person makes a financial investment, manages financial risk or makes non-cash payments, even if the facility is used for some other purpose. The specific inclusions illustrate the wide scope of the concept and include equity and debt securities, interests in managed investment schemes (i.e., unit trusts and other collective investments), derivatives, foreign exchange contracts, most insurance contracts, most superannuation (retirement savings) products, most deposit-taking facilities provided by Australian banks and other authorised deposit-taking institutions (ADIs), and government debenture and bond issues. The specific exclusions are generally products that are more suitably regulated under some other regime (such as credit facilities and payment systems).
Australia’s framework for the regulation of the financial sector and the issuance of financial products is based on three separate agencies operating on functional lines. These regulatory bodies have prime responsibility for maintaining the safety and soundness of markets and regulated institutions, protecting consumers and promoting systemic stability, through implementing and administering the applicable regulatory regimes. Specifically:
4 See Australia’s Banking Industry, Australian Trade Commission (May 2011), available online at www.austrade.gov.au.
5 Takeovers are separately regulated under Chapter 6 of the Corporations Act, (in some cases) industry-specific regulation, the Foreign Acquisitions and Takeovers Act 1975 of Australia and the Commonwealth government’s foreign investment policy, and are not considered in this chapter.
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a the Australian Securities and Investments Commission (ASIC) is the corporate, markets and financial services regulator responsible for market conduct and investor protection;
b the Australian Prudential Regulation Authority (APRA) is responsible for the prudential regulation and supervision of banks and other ADIs, life and general insurance companies, and most participants in the superannuation industry; and
c the Reserve Bank of Australia (RBA) is responsible for monetary policy, overseeing financial system stability and overseeing the payments system.
The Council of Financial Regulators (CFR) is the coordinating body for Australia’s main financial regulatory agencies. It is a non-statutory body whose role is to contribute to the efficiency and effectiveness of financial regulation and to promote stability of the Australian financial system, and also to advise the Commonwealth government on the adequacy of Australia’s financial regulatory arrangements. Its membership comprises the RBA (which chairs the CFR), APRA, ASIC and the Commonwealth Treasury.
In addition, the Australian Competition and Consumer Commission (ACCC) is responsible for competition policy, with a mandate that extends across the entire economy, including the financial services sector.
The vibrancy of Australia’s capital markets is underpinned by:a a history, since the mid-1980s, of legislative reform promoting growth and
investment;b a relatively low level of issuance of traditional government and semi-government
fixed-interest securities (due to budget surpluses), although the volume of issuance has increased in recent years;
c an increasing demand by investors for a wide range of financial products (due, in part, to increased savings as a result of Australia’s compulsory superannuation system);
d a highly educated, skilled, multilingual and computer-literate labour market, particularly in the financial sector;
e a strategic location in the Asia-Pacific region; andf increasing integration with global capital markets.
In addition to participating in the domestic capital markets, the Commonwealth government, state and territory governments, semi-government authorities and companies have regularly issued securities and other financial products in international capital markets and the domestic capital markets of a number of foreign countries (most commonly, the United Kingdom, the United States and Japan).
ii Prudential regulation and supervision
APRA’s core mission is to establish and enforce prudential standards and practices designed to ensure that, under all reasonable circumstances, financial promises made by the institutions APRA supervises are met within a stable, efficient and competitive financial system. The framework for prudential regulation includes requirements regarding capital adequacy, credit risk, market risk, covered bonds, securitisation, liquidity, credit quality, large exposures, associations with related entities, outsourcing, business continuity
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management, risk management of credit card activities, audit and related arrangements for prudential reporting, governance and fit and proper management.6
In the prudential standards for ADIs, APRA has formally introduced the Basel III definition of regulatory capital, the minimum requirements for the different tiers of capital, and stricter eligibility criteria for capital instruments with effect from 1 January 2013. In some instances, similar requirements have been introduced for life and general insurance companies.
There are three main elements in APRA’s approach to the Basel III capital reforms (as described in a speech by the chair of APRA to the 41st Australian Conference of Economists on 11 July 2012) as follows:a the Basel III definition of regulatory capital, the Basel III minimum requirements
and eligibility criteria for regulatory capital instruments, and the Basel III regulatory adjustments to capital each specify minimum requirements, with only minor exceptions (from 1 January 2013, ADIs were required to meet a minimum Common Equity Tier 1 requirement of 4.5 per cent of risk-weighted assets, after regulatory adjustments);
b for ‘in-principle’ reasons, APRA did not adopt the concessional treatment available for certain items in calculating regulatory capital, a discretion that was available under the Basel III reforms. These items are deferred tax assets relating to ‘temporary’ (timing) differences, significant investments in the common shares of non-consolidated financial institutions and mortgage servicing rights. APRA has never recognised these items in calculating regulatory capital and, in APRA’s view, to do so would not be consistent with the objective of raising the quality and quantity of regulatory capital in Australia; and
c APRA has adopted an accelerated Basel III timetable in some areas.
iii Access, authorisation and licensing
An Australian entity is not required to obtain any general governmental authorisations or consents prior to issuing securities in Australia. In most cases, the only authorisations and consents required are those prescribed by the issuer’s constitutional documents or governing statute.
Foreign companies are also not subject to any direct government controls in issuing securities in Australia7 and, since April 1991, foreign governments, their agencies
6 APRA’s prudential standards are available online at www.apra.gov.au.7 The Corporations Act requires that foreign companies that ‘carry on business in Australia’
must apply for registration as a foreign company. The phrase ‘carrying on business’ imports notions of system, repetition and continuity, and is to be assessed by reference to the activities of the foreign company as a whole.
Registration involves reserving a name, appointing a local agent, establishing a registered office, lodging certain documents with ASIC and the payment of a fee. However, as long as a foreign issuer of securities is not involved in other business in Australia, occasional issues into the debt markets limited to professional investors should not, of themselves, constitute ‘carrying on business in Australia’. If a foreign company issuer issues debt securities
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and international organisations have also been permitted to raise funds in the Australian domestic debt capital markets, subject to some limited restrictions (e.g., the debt securities must be in registered, not bearer, form). However, the issuance of other types of financial products, and the trading of both securities and other financial products, may require the issuer or trader to hold an Australian financial services licence (AFSL) from ASIC under Chapter 7 of the Corporations Act (or be exempt from the requirement to do so).
A person who carries on a financial services business ‘in Australia’ (including a person who engages in conduct that is intended, or likely, to induce people in Australia to use his or her financial services)8 is required to hold an AFSL (or be exempt from the requirement to do so). A person provides a financial service if he or she engages in certain activities, in particular:a the provision of financial product advice;b issuing or otherwise dealing in a financial product;c making a market for a financial product;d operating a registered managed investment scheme; ande providing a custodial or depository service (i.e., holding financial products on
behalf of others).9
Although there are numerous exemptions available for particular financial services or financial products (e.g., an entity issuing its own securities or the acquisition and disposal of a financial product if a party is dealing on its own behalf provided that it is not the issuer of that financial product),10 there are few exemptions of general application. ASIC has, however, provided a number of limited class order exemptions for certain regulated foreign financial institutions that operate in foreign jurisdictions that have a similar level of investor protection to Australia.
APRA has clarified its policy expectations with respect to business conducted in Australia, or with Australian customers, by foreign banks that are not authorised to carry on banking business in Australia as a ‘foreign ADI’ (i.e., through a local branch).11 APRA generally takes the position that foreign banks soliciting and operating an active business in Australia should be subject to Australian prudential regulation and supervision,
in circumstances that require a prospectus (broadly, an issue not limited to professional investors) it is taken to carry on business in Australia and must register as a foreign company.
Registration or exemption may also be required under other legislation in certain circumstances including, without limitation, the Banking Act 1959 of Australia or the Financial Sector (Collection of Data) Act 2001 of Australia.
8 Section 911D of the Corporations Act provides for an extended jurisdictional reach in relation to the requirement to hold an AFSL from ASIC.
9 See Section I.i, supra, for a discussion of the general definition of a ‘financial product’ and specific inclusions within, and specific exclusions from, that definition.
10 In the case of derivatives that are not entered into or acquired on a financial market, each party to the derivative is regarded as the issuer.
11 Letters of 14 April 2011 and 19 September 2013 to all ADIs, available online at www.apra.gov.au.
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regardless of where the business is booked. APRA does not, however, object to a foreign bank conducting limited business with Australian counterparties from its offshore offices, provided certain conditions are satisfied.
There is no requirement that financial products issued in Australia be governed by Australian law, although investors are generally more familiar with Australian law and there may be investment restrictions precluding a particular investor from purchasing financial products governed by foreign law. In certain cases, there is an expectation that financial products will be governed by Australian law – for example, issues of many financial products to retail clients (see below) and the issue of debt securities in the ‘kangaroo’ bond market.12
The Future of Financial Advice reforms,13 commenced on 1 July 2012, with compliance mandatory from 1 July 2013, and include:a a duty for financial advisers to act in the best interests of their clients (subject to a
‘reasonable steps’ qualification) and place the best interests of their clients ahead of their own when providing personal advice to retail clients;
b a prospective ban on conflicted remuneration structures (including commissions and volume-based payments) in relation to the distribution of, and advice about, a range of retail investment products; and
c changes to ASIC’s licensing and banning powers.
Following the federal election on 7 September 2013, the new Commonwealth government announced a package of amendments to the Future of Financial advice provisions. These amendments include removing the need for clients to renew their ongoing fee arrangements with their advisers every two years, removing the ‘catch-all’ provision from the steps financial advisers may take in order to satisfy the best interests obligation and providing a targeted exemption for general advice from the ban on conflicted remuneration structures. The Commonwealth government has passed a series of regulations to support the Future of Financial Advice reforms and is currently considering further legislative amendments.
iv Offers of securities and other financial products
Offers for the issue, and (in certain cases) the sale or purchase, of equity and debt securities14 in Australia are regulated by Part 6D.2 of the Corporations Act, whereas the
12 The terms and conditions of debt securities issued by foreign issuers need to be governed by an Australian law for the following purposes: acceptance in the Austraclear clearing system; inclusion in the domestic bond indices; eligibility for repurchase transactions with the RBA (if available); and qualification as regulatory assets for certain general insurance companies in Australia.
13 The reforms are contained in two separate but related acts: the Corporations Amendment (Future of Financial Advice) Act 2012 of Australia and the Corporations Amendment (Further Future of Financial Advice Measures) Act 2012.
14 Although most debt securities issued in the domestic capital market would be ‘debentures’ and regulated by Chapter 6D.2 of the Corporations Act, some structured debt securities may
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issue of other financial products is regulated by Part 7.9 of the Corporations Act. The provisions of the Corporations Act relating to offers of securities, and other financial products for issue or sale, do not apply to offers received outside Australia.15
As a general matter, a person must not offer or invite applications for the issue, sale or purchase of securities in Australia (including an offer or invitation that is received by a person in Australia), unless a prospectus or other disclosure document that complies with the form and content requirements of the Corporations Act has been lodged with ASIC. A similar requirement in relation to the lodgement with ASIC of a product disclosure statement (PDS) is set out in Part 7.9 of the Corporations Act in relation to offers for the issue, and (in certain cases) the sale or purchase, of other financial products.
The basic regulatory approach is based on disclosure. There is no general requirement for a prospectus, PDS or other disclosure document to be vetted or reviewed by ASIC or any other regulator before lodgement and publication.
At a high level, a prospectus or other disclosure document in relation to securities must contain all information that investors and their professional advisers would reasonably require to make an informed assessment of specific matters, including:a the rights and liabilities attaching to the securities offered; andb the assets and liabilities, financial position and performance, profits and losses
and prospects of the issuer.16
The information must be presented in a clear, concise and effective manner. Similar requirements apply to a PDS or other disclosure document in relation to other financial products, although the precise content requirements vary depending on the financial product.
ASIC has published regulatory guidance concerning the main disclosure requirements of Chapter 6D of the Corporations Act, including:a how to word and present a prospectus in a ‘clear, concise and effective’ manner,
including guidance on communication tools and use of an investment overview to highlight key information;
b the content required to satisfy the general disclosure test of the Corporations Act, as well as guidance on business models, risks, financial information and management; and
not be debentures, but rather another type of ‘financial product’ (for example, a derivative) or, possibly, a combination of a debenture and another type of financial product, and regulated by Chapter 7 of the Corporations Act.
15 However, the licensing requirements of Chapter 7 can apply to foreign financial services providers (see the discussion in Section I.iii, supra, in relation to the requirement to hold an AFSL or be exempt from the requirement to do so).
16 In the event the offer is of securities (or options over such securities) that are in a class that was continuously quoted on the Australian Securities Exchange (ASX) in the 12 months prior to the issue of the prospectus or other disclosure document, the disclosure requirements are more limited.
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c the specific disclosure required by the Corporations Act, including details of the offer and interests of persons involved in the offer.17
The Commonwealth Parliament has passed amendments to the legal processes, documentation and liability for simple corporate bonds offered to retail investors (see the discussion in Section II.i, infra).
Exempt wholesale offersThe requirement to issue a prospectus or other disclosure document for an offer of securities does not apply where the relevant securities are issued for a consideration of at least A$500,000 per offeree (disregarding amounts lent by the offeror and its associates). In addition, a prospectus or other disclosure document is not required if potential subscribers and buyers are restricted to professional investors (as broadly defined in the Corporations Act,18 which includes what may be loosely called ‘institutional and other sophisticated investors’), or the requirements of another exemption are satisfied,19 allowing an issue for a lesser consideration to occur without disclosure in accordance with the Corporations Act. Similar restrictions can apply to the offering of securities for sale or purchase in the secondary market in certain cases.
In the case of other financial products, similar (but subtly different) exemptions apply: the requirement to issue a PDS or other disclosure document only applies to an offer to a ‘retail client’ (which is defined as a person who is not a ‘wholesale client’). In summary, a person is a ‘wholesale client’ if at least one of the following four tests applies (all other persons are retail clients):
17 ASIC, Regulatory Guide 228: Prospectuses: Effective Disclosure for Retail Investors (November 2011).
18 A professional investor includes: (1) a person who holds an AFSL; (2) a body regulated by APRA; (3) a body registered under the Financial Sector (Collection of Data) Act; (4) a trustee of a superannuation fund, approved deposit fund, pooled superannuation trust or public sector superannuation scheme, in each case within the meaning of the Superannuation Industry (Supervision) Act 1993 of Australia, and the relevant fund, trust or scheme has net assets of at least A$10 million; (5) a person who has or controls gross assets of at least A$10 million (including any assets held by an associate or under a trust that the investor manages); (6) a listed entity (e.g., listed on ASX) or a related body corporate of a listed entity; (7) an Australian public authority or an instrumentality or agency of the Crown in right of the Commonwealth or a state or territory; (8) a body corporate or an unincorporated body that carries on a business of investment in financial products, interests in land or other investments and invests funds received following an offer or invitation to the public, the terms of which provided for the funds subscribed to be invested for those purposes; and (9) a foreign entity that, if established or incorporated in Australia, would be covered by one of the preceding categories.
19 See Section 708 of the Corporations Act. In particular, Section 708(19) allows an ADI to issue debentures (including retail bonds and notes) without issuing a prospectus or other disclosure document.
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a the consideration payable for the product is at least A$500,000;b the product is provided in connection with a business that is not a small business
(this normally means at least 20 employees);c the client’s net assets are at least A$2.5 million or income for each of the past two
years is at least A$250,000; ord the client is a professional investor (see above).
The vast majority of offers of debt securities and other financial products by foreign issuers or offerors are structured so as not to require the issue of a prospectus, PDS or other disclosure document that is required to comply with the form and content requirements of either Part 6D.2 or 7.9 of the Corporations Act.
Liability issuesA person must not offer securities and other financial products under a prospectus, PDS or other disclosure document that is misleading or deceptive, or omits material required to be included by either Part 6D.2 or 7.9 of the Corporations Act. Those who may be liable include the issuer, directors of the issuer, other persons named in the disclosure document and persons otherwise involved in the contravention of the disclosure requirements. There are a range of defences to liability for a disclosure document, which are broadly based on the concepts of reasonable enquiry and reasonable reliance (i.e., due diligence defences).20
Irrespective of whether the offering of securities or other financial products requires disclosure to investors in accordance with either Part 6D.2 or 7.9 of the Corporations Act, an issuer or offeror may incur liability under various provisions prohibiting:a offering financial products under a document that contains a misleading or
deceptive statement, or a statement likely to mislead or deceive;b creating an artificial price for trading in financial products on a financial market
operated in Australia;c creating a false or misleading appearance about the market or price for financial
products;d spreading misleading or false information; ore otherwise engaging in misleading or deceptive conduct, or conduct that is likely
to mislead or deceive (including by omission and, in certain circumstances, by remaining silent).21
20 It is important to note that these defences are not available for wholesale offers of securities and other financial products that are structured so as not to require the issue of a prospectus, PDS or other disclosure document under either Part 6D.2 or 7.9 of the Corporations Act.
21 Additionally, issuers or offerors may also be liable at general law in tort or contract if any disclosure to investors is false, inaccurate, misleading or deceptive (including by omission), or negligent.
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In general terms, these prohibitions are unlikely to impose any greater restrictions on an issuer or offeror than would be encountered in many segments of the international capital markets.
v Some other features of Australia’s capital markets22
ExchangesASX was created through the merger of the Australian Stock Exchange and the Sydney Futures Exchange, and is operated by ASX Limited. Previously, ASX was in charge of supervising and enforcing all market and trading rules in respect of its markets. However, ASIC has now assumed the supervision of trading activities by market participants.
All listed entities must prepare and lodge an annual audited financial report, and an audited or audit-reviewed half-year financial report, complying with Australian accounting standards (which are based on International Financial Reporting Standards). Listed entities must also describe their corporate governance practices in detail in their annual reports. In addition, listed entities and the responsible entities of listed managed investment schemes must comply with the continuous disclosure requirements of the Corporations Act and the ASX Listing Rules,23 and must immediately disclose (via announcements made to ASX) any information concerning itself that a reasonable person would expect to have a material effect on the price or value of its securities.24
Chi-X Australia Pty Ltd (Chi-X) has, since November 2011, operated as an alternative securities exchange boosting competition in Australia’s financial markets.25 Chi-X has ASIC approval to trade in all S&P/ASX 200 component stocks and ASX-listed exchange traded funds. It is not, however, an alternate stock exchange: rather, it operates only as an execution forum through which securities quoted on ASX can be traded.
22 A general description of Australia’s taxation regime is beyond the scope of this chapter but can be found in ‘A guide to doing in business in Australia’, available online at www.kwm.com.
23 The interpretation of the Listing Rules is assisted by guidance notes issued by the ASX. Following a period of consultation, a revised guidance note on continuous disclosure (ASX Guidance Note 8) and consequential amendments to the ASX Listing Rules came into effect on 1 May 2013 and was updated on 1 January 2014. Further information on the revised Guidance Note and ASX Listing Rules is available online at www.asx.com.au.
24 ASX Listing Rule 3.1. Under ASX Listing Rule 3.1A, there are limited exceptions to this obligation where a reasonable person would not expect the information to be disclosed, and the information is confidential and satisfies one of five specified conditions (including an incomplete proposal). Most listed entities and responsible entities of listed managed investment schemes adopt rigorous monitoring and reporting systems to enable price-sensitive information to be identified and disclosed in a timely fashion. ASIC has been rigorous in the enforcement of the requirement for immediate disclosure of price-sensitive information.
25 In addition to ASX and Chi-X Australia, there are a number of small regional securities exchanges that operate in Australia.
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Financial claims scheme and wholesale funding guaranteeAs part of its response to the global financial crisis, the Commonwealth government established both the Financial Claims Scheme (FCS) and the Australian Government Guarantee Scheme for Large Deposits and Wholesale Funding.26
The FCS was amended in February 2012 and is now capped at A$250,000 per person per institution. The FCS is designed to protect depositors by providing them with timely access to their deposits in the event that their ADI becomes insolvent, and APRA has promulgated a prudential standard that requires locally incorporated ADIs to establish a ‘single customer view’ for balances in accounts protected under the FCS.27 This cap is estimated to protect in full the savings held in around 99 per cent of Australian deposit accounts.
On 2 August 2013 the previous Commonwealth government announced that it would progress a recommendation from the CFR and establish a dedicated Financial Stability Fund to strengthen Australia’s financial crisis response capability. The Fund would be funded by a levy on banks and build gradually over time to a target size of 0.5 per cent of total deposits provided by the FCS. However, on 1 September 2015 the Commonwealth government announced that it will not implement that levy.28
Corporate governanceThe Australian capital markets have high expectations of corporate governance, which continues to evolve, with recent focus on the composition and responsibilities of the board, disclosure and reporting requirements, audit reform and shareholder participation.
Directors’ duties in Australia are prescribed by legislation, in particular the Corporations Act, and an extensive body of case law (common law). As fiduciaries, directors owe stringent duties to act honestly, exercise care and diligence, act in good faith in the best interests of the company and for a proper purpose, not to improperly use
26 Access to the Guarantee Scheme for new liabilities was closed in March 2010.27 Prudential Standard APS 910 Financial Claims Scheme (APS 910), which came into effect
on 1 January 2012. In November 2012, APRA released a consultation package comprising a discussion paper, draft amended APS 910 and draft information paper. The package contained proposals in relation to payment, reporting and communications requirements for further implementation of the FCS. In June 2013, APRA released its response to the proposals outlined in the November 2012 package and issued its final APS 910. The final APS 910 took effect from 1 July 2013, and compliance with the new requirements has been required since 1 July 2014. The establishment of a ‘single customer view’, and the recommendation from the CFR, both followed recommendations (paragraphs 51 and 52) in the Financial System Stability Assessment for Australia prepared by the International Monetary Fund in November 2012 (IMF Country Report No. 12/308) and available online at www.imf.org.
28 On 7 September 2013 Australia elected a new Commonwealth government, to be formed by a coalition of the Liberal Party of Australia and the National Party of Australia, to replace the previous government (formed by the Australian Labor Party with the support of a number of independents).
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their position or company information, and to disclose their material personal interests and avoid conflicts of interest. Directors have duties regarding financial and other reporting and disclosure, and can be liable under various laws, including for breaches of fundraising, anti-money laundering, environmental, competition and consumer, privacy, and occupational health and safety laws.
Some defences are available to directors, including under a limited business judgement rule in certain circumstances, for reliance in good faith after making an independent assessment and for appropriate delegation. In recent years, there have been a series of important court judgments on directors’ and officers’ duties in litigation involving the following:a Fortescue Metals Group – the continuous disclosure requirements of the
Corporations Act and the ASX Listing Rules, and the availability of the defence for a director that all steps were undertaken that were reasonable in the circumstances to ensure that the company complied with its obligations and that the director believed on reasonable grounds that the company was complying;29
b Centro Properties Group and Centro Retail Group – breaches by directors and officers of their duties in connection with deficiencies in annual financial reports, notwithstanding a finding by the Federal Court of Australia that these persons had acted honestly, had not intended to harm the company and had not benefited in any way in inadequately overseeing the financial reports;30 and
c James Hardie Industries – directors’ duties of diligence and care in approving ASX announcements.31
These proceedings have prompted considerable academic and public debate as to whether there is a case for law reform in relation to the extent of the duties of directors and officers, and the defences available to them, particularly where a director or officer has made a business judgement in good faith for a proper purpose.
In addition to the liabilities imposed by the Corporations Act, a wide range of Commonwealth, and state and territory statutes, impose personal criminal or
29 Judgment in this proceeding was given in favour of the company and its directors by the High Court of Australia on 2 October 2012 in Forrest v. Australian Securities and Investments Commission; Fortescue Metals Group Ltd v. Australian Securities and Investments Commission (2012) 247 CLR 486, which overruled the judgment in the Federal Court of Appeal in Australian Securities and Investments Commission v. Fortescue Metals Group Ltd (2011) 274 ALR 731.
30 Australian Securities and Investments Commission v. Healey (2011) 196 FCR 291 and Australian Securities and Investments Commission v. Healey (No. 2) (2011) 196 FCR 430.
31 Australian Securities and Investments Commission v. MacDonald (No. 11) (2009) 256 ALR 199, Morley v. Australian Securities and Investments Commission (2010) 274 ALR 205 and James Hardie Industries NV v. Australian Securities and Investments Commission (2010) 274 ALR 85. Judgments in these proceedings were given by the High Court of Australia on 3 May 2012. See Australian Securities and Investments Commission v. Hellicar (2012) 247 CLR 345 and Shafron v. Australian Securities and Investments Commission (2012) 286 ALR 612.
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civil liability, or both, on directors and officers for the actions of their companies. On 11 December 2012, the Personal Liability for Corporate Fault Reform Act 2012 (Reform Act) commenced operation. The Reform Act harmonised the approach of all Australian jurisdictions to personal criminal liability for corporate fault, and was a direct response by the Commonwealth to fulfil commitments under the Council of Australian Governments’ directors’ liability reform project.32
Competition lawsThe Competition and Consumer Act 2010 of Australia (Competition and Consumer Act) is the primary competition and consumer protection legislation in force in Australia.33 The Competition and Consumer Act is similar to North American and European competition laws and is administered by the ACCC. The ACCC has an active enforcement policy and recognises that Australian competition law must keep pace with the globalisation of the world economy.
Anti-money launderingThe Anti-Money Laundering and Counter-Terrorism Financing Act 2006 of Australia established an anti-money laundering regime that is administered by the Australian Transaction Reports and Analysis Centre. The regime covers all entities providing designated services through a permanent establishment in Australia. Designated services include deposit taking, remittance services, electronic funds transfer, foreign exchange contracts, issuing and selling securities and derivatives, providing interests in managed investment schemes, lending and allowing loan transactions, finance leasing providing custodial or depository services and pensions, annuities and life insurance policies.
Privacy lawThe Privacy Act 1988 of Australia regulates the handling of personal information about individuals. This includes the collection, use, storage and disclosure of personal information, and access to and correction of that information.
The Privacy Amendment (Enhancing Privacy Protection) Act 2012 became law in December 2012 and introduced a new statutory regime with mandatory privacy principles (Australian Privacy Principles) with which all relevant businesses must comply.34 The Australian Privacy Principles update and consolidate the privacy principles
32 Before state governments commenced to enact legislation in accordance with this reform project, there were more than 700 separate state and Commonwealth laws imposing personal liability on directors and officers of a company as a result of a statutory breach by that company.
33 On 1 January 2011, the Trade Practices Act 1974 of Australia was amended and renamed the Competition and Consumer Act 2010.
34 The enactment of the Privacy Amendment (Enhancing Privacy Protection) Act is a direct response by the Commonwealth government to the Australian Law Reform Commission Report No. 108, For Your Information: Australian Privacy Law and Practice.
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that previously applied to government agencies (the Information Privacy Principles) and private sector entities (the National Privacy Principles) and:a limit the ability of agencies and organisations to use unsolicited personal
information, specifically regulate the use and disclosure of personal information held by an agency or organisation for direct marketing purposes, and introduce new responsibilities for agencies and organisations transferring data overseas;
b introduce a comprehensive scheme for credit reporting that regulates information disclosed to, and by, credit reporting bodies, credit providers and affected information recipients; and
c enhance the powers of the Information Commissioner so that he or she may, inter alia, conduct assessments regarding the Australian Privacy Principles.
Under the Australian Privacy Principles:a an agency may only solicit and collect ‘personal information’ that is reasonably
necessary for, or directly related to, one or more of its functions or activities;b an organisation may only solicit and collect ‘personal information’ that is
reasonably necessary for one or more of its functions or activities;c an agency or organisation may only solicit and collect ‘sensitive information’ if
the individual consents to the sensitive information being collected (unless an exception applies); and
d an agency or organisation must only solicit and collect personal information by lawful and fair means, and directly from the individual (unless an exception applies).
An agency or organisation must not use or disclose the information collected for a purpose other than that for which it was collected unless the individual has consented to such use or disclosure, or an exception applies.
The Australian Privacy Principles came into force on 12 March 2014.
Personal property securities reformThe Personal Property Securities Act 2009 of Australia (PPSA) commenced operation on 30 January 2012 and introduced a national system for the registration of security interests in personal property, together with rules for the creation, priority and enforcement of security interests in personal property. The PPSA partially replaced the existing Commonwealth and state-based regimes, including the existing regime under the Corporations Act for the registration of charges. The PPSA operates with retrospective effect on security interests and security agreements arising prior to the commencement of the legislation.
The PPSA was a very significant change in Australian law that affected corporate finance, bilateral and syndicated lending, leveraged and acquisition finance and project finance more significantly than the capital markets, where issues are mostly unsecured.
A secured party may need to take additional steps under the PPSA to maintain the effectiveness or priority of its existing securities. Further, as a result of the broad definition of security interests under the PPSA, a secured party may need to take steps under the PPSA to maintain the effectiveness or priority of other transactions that, under the previous law, do not constitute security interests (such as retention of title
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arrangements, certain leases, securitisation transactions and certain subordination arrangements). The system has been substantially modelled on the personal property regimes in New Zealand, Canada and the United States.
In 2014, the Commonwealth government conducted a review of the operation and effects of the PPSA. The Final Report was tabled before the Commonwealth Parliament in March 2015 and contains a number of recommendations for amendments to the PPSA to improve its accessibility and performance. The Commonwealth government is now considering these recommendations.
II THE YEAR IN REVIEW
The Commonwealth government and regulators have continued their review of the framework for the regulation of the financial sector, and the laws governing access to, and the operation and supervision of, Australia’s capital markets. This process commenced in 2010 in response to the global financial crisis. In particular, the Commonwealth government remains committed to the initiatives developed through the G20, the Financial Stability Board, the International Monetary Fund and other multilateral institutions to support financial stability and to foster stronger economic growth. Some of the more important proposals in the past 12 months are outlined below.
i Developments affecting debt and equity offerings
Simple corporate bondsOn 19 December 2014 the Corporations Amendment (Simple Corporate Bonds and Other Measures) Act 2014 came into effect and significantly changed the legal processes, documentation and liability for simple corporate bonds offered to retail investors.35 This Act is a welcome development that should assist the development of the retail corporate bond market in Australia.36
Essentially, the legislation removed an anomaly in the previous law that required a ‘full’ prospectus, satisfying ‘equity disclosure standards’, for a retail offer of simple corporate bonds by a listed company. Previously, a listed company could issue additional equity to its shareholders with an investor presentation and a ‘cleansing statement’
35 The previous Commonwealth government introduced the Corporations Amendment (Simple Corporate Bonds and Other Measures) Bill 2013 in early 2013, which lapsed by reason of the calling of the election held on 7 September 2013. The 2014 Bill that received Royal Assent is essentially the same as the 2013 Bill, except that the definition of ‘simple corporate bond’ applies to a maximum 15-year fixed term in the former (rather than a maximum 10-year fixed term in the latter).
36 Previously, in 2010 ASIC had provided class order relief to promote the issue of ‘vanilla’ corporate bonds to retail investors. The relief was intended to simplify the disclosure requirements for certain offers of listed ‘vanilla’ bonds by allowing such offers to be made with reduced disclosure under a short-form prospectus, but very few issues were undertaken pursuant to the class order relief, and the proposed legislation seeks to address a number of limitations in the class order relief.
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released on ASX or, alternatively, raise debt from the wholesale market with a simple offering memorandum and term sheet.
Accordingly, the reform aimed to reduce the disparity between requirements for retail debt offers, retail rights issues of additional equity and wholesale debt offers. Key changes would involve:a the introduction of a streamlined two-part disclosure regime for offers of simple
corporate bonds (a base prospectus with a life of up to three years, and a short form offer specific prospectus). The content requirements for a prospectus for a simple corporate bond are to be set out in regulations that have not yet been released;
b the removal of ‘deemed’ civil liability for a director of a company making an offer under the prospectus (underwriters and others named in a prospectus, and anyone involved in a contravention, remain subject to the ‘deemed’ liability); and
c changes to the criminal liability for misleading and deceptive statements in relation to a prospectus.
However, in addition to this legal development there are many other commercial and market forces that need to align for the Australian domestic retail corporate bond market to develop significantly. These include the linking of the retail and corporate trading platforms and the comparative costs of accessing the wholesale and retail markets. Furthermore, in relation to the debt market generally, for the domestic market to develop significantly, there needs to be a change of view by those advising superannuation savers to increase exposure to fixed interest investments generally.
ii Developments affecting derivatives, securitisations and other structured products
Debentures and embedded derivativesAs noted above (see Section I.iv, supra) offers for the issue of debt securities (i.e., debentures) in Australia are regulated by Part 6D.2 of the Corporations Act, whereas the issue of derivatives is regulated by Part 7.9 of the Corporations Act. Two recent decisions of the Federal Court of Australia have highlighted the point noted above that some structured debt securities may not be debentures, but rather another type of financial product (such as a derivative) or a combination of a debenture and another type of financial product.37
In the first decision the court found that certain complex collateralised debt obligations were properly characterised as ‘undertaking[s] by the [issuer] to repay as a debt money deposited with or lent to the [issuer]’ (i.e., a debenture). In the second decision the court applied a ‘substance over form’ approach and found that certain
37 Wingecarribee Shire Council v. Lehman Brothers Australia Ltd (in liq) [2012] FCA 1028 (21 September 2012) and ABN Amro Bank NV v. Bathurst Regional Council (2014) 309 ALR 445.
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constant proportion debt obligations (CPDOs) were not able to be so characterised.38 It is difficult to reconcile the reasoning applied in the two decisions.
Liability of rating agenciesThe second of these decisions by the Federal Court of Australia, ABN Amro Bank NOV v. Bathurst Regional Council, is more noteworthy for the finding that Standard and Poor’s (S&P) had engaged in misleading and deceptive conduct, and otherwise made negligent misstatements, by assigning the rating of AAA to the CPDOs, which conveyed the representation that S&P had reached this opinion based on reasonable grounds and as a result of an exercise of reasonable care. The court also found that a number of other defendants to the proceedings were also liable to the plaintiffs, and that under certain grounds of liability S&P and those defendants were proportionally liable in equal parts to compensate the plaintiffs for their losses, assessed on the basis that damages amount to the difference between the principal amount paid for the CPDOs and the payment received on the cash-out of the CPDOs, without deduction for any coupon payments received in the intermediate period.
iii Banking and related reforms
Financial system inquiryOn 20 December 2013, the Commonwealth Treasurer announced the final terms of reference for the financial system inquiry, chaired by David Murray AO. The inquiry’s task was to examine how the financial system could be positioned to best meet Australia’s evolving needs and support Australia’s economic growth. The final report was released on 7 December 2014.
The final report makes 44 recommendations relating to the Australian financial system focusing on five broad themes:a strengthening the economy by making the Australian financial system more
resilient;b lifting the value of superannuation and retirement products;c driving economic growth and productivity;d enhancing confidence and trust by creating an environment in which financial
firms treat customers fairly; ande enhancing regulator independence and accountability.39
Basel III reformsAPRA has continued its review of the framework for the prudential regulation and supervision of banks and other ADIs, life and general insurance companies and
38 In applying a ‘substance over form’ approach, the outcome was that CPDOs in the form of notes were classified as derivatives.
39 The terms of reference, submissions and final report are available online at http://fsi.gov.au/.
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participants in the superannuation industry and released a number of prudential standards, proposals and consultation papers40 relating to, inter alia:a the Basel III package of capital, liquidity and other banking sector reforms;41
b the framework for dealing with domestic systemically important banks in Australia, which will come into effect from 1 January 2016;
c a proposed simplified prudential framework for securitisation for ADIs, including a set of key principles that apply to securitisation and a two credit class structure;
d ‘shadow banking’, particularly the deposit-taking activities of bodies registered under the Financial Sector (Collection of Data) Act (Registered Financial Corporations or RFCs) and religious charitable development funds (RCDFs);42 and
40 These standards, proposals and papers were in addition to those released in 2011 and in the first half of 2012 relating to (1) covered bonds and securitisation, (2) the implementation of the Basel III, (3) cross-industry standards to consolidate and harmonise a number of prudential standards across APRA-regulated entities (including in relation to governance, executive remuneration, fitness and propriety, outsourcing and business continuity management), (4) restrictions on the use of the word ‘bank’ and cognate expressions, (5) the introduction of prudential standards for the superannuation industry, and (6) the FCS. All of APRA’s prudential standards, proposals and consultation papers are available online at www.apra.gov.au.
In addition, in September 2012 the Commonwealth government released a paper for public consultation, entitled ‘Strengthening APRA’s Crisis Management Powers’, which sought comments on a range of options to enhance Australia’s financial sector, and particularly prudential regulation. The options canvassed in the paper aim to strengthen APRA’s crisis-management powers in relation to ADIs, superannuation entities, and general and life insurers. Implementation of these options is intended to bring Australia’s regulatory framework more closely into line with the G20-endorsed new international standard for crisis-management arrangements published by the Financial Stability Board: Key Attributes of Effective Resolution Regimes. Although submissions closed in December 2012, the Commonwealth Treasury is yet to release an official response to the submissions received. Copies of the paper are available online at www.treasury.gov.au.
41 Progress reports on Basel III implementation are published by the Bank of International Settlements and are available online at www.bis.org. The Bank of International Settlements released its assessment on Basel III implementation in Australia on 17 March 2014. The full report is available online at www.bis.org/press/p140317.htm.
42 At present, RFCs and RCDFs that undertake ‘banking business’, as defined in the Banking Act, are exempt from the need to be authorised as deposit-taking institutions and regulated by APRA. These exemptions are historic in nature. ASIC is also undertaking a review of a number of class orders exemptions available to some RFCs and RCDFs from the fundraising provisions set out in Parts 6D.2 and Part 7.9 of the Corporations Act (see Section I.iv, supra).
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e risk-management and capital adequacy requirements for the supervision of conglomerate groups comprising APRA-regulated institutions that perform material activities across more than one APRA-regulated industry or in one or more non-APRA-regulated industry. Implementation of these proposals has been postponed pending the recommendations of the financial system inquiry.43
A key reform in 2015 was the commencement on 1 January 2015 of the liquidity coverage ratio (LCR) regime, including the committed liquidity facility (CLF) which the Reserve Bank of Australia makes available to ADIs. APRA’s core objective in implementing the Basel III liquidity reforms is that ADIs in Australia, singly and in aggregate, appropriately manage their liquidity risk. The LCR’s contribution to this objective is the requirement that ADIs subject to the LCR44 must at all times be able to demonstrate their ability to withstand a minimum of 30 days severe liquidity stress. The CLF will be sufficient in size to cover any shortfall between the ADI’s holdings of high-quality liquid assets and the requirement to hold such assets under the LCR.
The next key milestone in the implementation of the Basel III reforms will be 1 January 2016, when the capital conservation and countercyclical buffers are proposed to be introduced. From that date, ADIs will be required to meet a minimum common equity Tier 1 requirement of 7 per cent, including the capital conservation buffer. The countercyclical buffer will be deployed by APRA in periods when excess aggregate credit growth is adjudged to be associated with a build-up of system-wide risk to ensure the banking system has a buffer of capital to protect it against future potential losses. The chair of APRA has commented that APRA’s approach to the Basel III capital reforms ‘reflects its firmly held view that conservatism has served Australia well before and during the crisis, that the milestones are not demanding, and that the impact of higher capital requirements on the overall funding costs of ADIs is likely to be small’.45
iv Role of exchanges, central counterparties and rating agencies
On 6 December 2012 the Commonwealth government passed amendments to the Corporations Act under which regulations may be prescribed, when appropriate, designating one or more of the following as mandatory obligations:a the reporting of OTC derivatives to trade repositories;b the clearing of standardised OTC derivatives through central counterparties; andc the execution of standardised OTC derivatives on exchanges or electronic trading
platforms.
43 Please see APRA’s Response to Submission-Supervision of Conglomerate Groups, August 2014 at www.apra.gov.au.
44 ADIs, with larger or more complex operations, which are required by APRA’s prudential standards to conduct scenario analysis of their liquidity needs under different operating circumstances.
45 Chapter 1, page 11, APRA’s 2012 Annual Report.
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On 9 July 2013, ASIC published the Derivative Transaction Rules (Reporting) 2013 and the Derivative Trade Repository Rules 2013 establishing which entities are required to report, what information is required to be reported to trade repositories (and when the reporting obligation commences for each class of reporting entities and type of instrument) and the conditions for electronic databases of records of derivative transactions. The rules also regulate the manner in which repositories provide their services, and ASIC’s approach to regulation of overseas-based repositories. ASIC has granted various forms of relief from the application of the rules for specified periods of time. Most recently, the Commonwealth government has introduced relief for reporting entities with low levels of OTC derivative transactions. From September 2015, single-sided reporting is permitted for such entities provided that their counterparty is already required to or has agreed to report.46
In February 2014, the Commonwealth Treasury released a consultation paper seeking stakeholder views on an approach for implementing G20 commitments with respect to central clearing of OTC derivatives. Although submissions closed in April 2014, the Commonwealth Treasury is yet to release an official response to the submissions received.
In April 2014, the CFR released a report on the Australian OTC derivatives market, which, inter alia:a recommended that the Commonwealth government consider implementing a
mandatory clearing obligation for OTC transactions in Australian dollar interest rate derivatives for internationally active dealers; and
b indicated that it is not yet appropriate to recommend a mandatory platform trading obligation.
Following extensive consultation, the Commonwealth Treasury has implemented a mandatory central clearing obligation for OTC interest rate derivatives denominated in Australian dollars and G4 currencies (US dollars, euros, British pounds and Japanese yen), with effect from September 2015.
To assist with reporting requirements, ASX has established a domestic central clearing solution for Australian OTC market participants following extensive market consultation by the ASX. In many cases Australian institutions are finding themselves having to comply with international derivative regulatory requirements without any local market infrastructure to help. ASX’s OTC clearing service is intended to fill part of this gap, in Australia’s time zone, in Australia’s currency, in Australia’s legal system and with collateral held in Australia. On 13 January 2014 ASX formally lodged with ASIC the final form of the Operating Rules. ASX launched the OTC Interest Rate Derivatives Clearing Service on 1 July 2013 for dealer activity, while the Australian Client Clearing Service was launched on 7 April 2014.
46 These reforms were implemented through the Corporations (Derivatives) Amendment Determination 2015 (No. 1) and the Corporations Amendment (Central Clearing and Single-Sided Reporting) Regulation 2015 respectively.
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III OUTLOOK AND CONCLUSIONS
Australia’s capital markets remain accessible to both domestic and international issuers. The regulation of the market is generally sensible and well understood. There have been many reforms to the regulatory framework over the past five years, and further reforms (some of which have been outlined in this chapter) will come into force in the forthcoming period.
With the final report released in December 2014, the recommendations of the financial system inquiry may have a significant impact on Australia’s capital markets (and financial system generally). Although the final report identifies a range of issues and makes a range of recommendations, it is difficult to foreshadow the issues on which the Commonwealth government will act.
The changes required in order for financial institutions to comply with APRA’s response to the Basel III (especially the new capital and liquidity requirements) and the transition arrangements can be expected to result in the increased issuance of hybrid securities incorporating the new ‘loss absorbency’ requirements in the coming years.
Overall, we expect continued growth, and that Australia’s capital markets will continue to be both highly regarded – and ranked – among the world’s leading financial systems and capital markets.
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Chapter 2
BRAZIL
Ricardo Simões Russo, Gustavo Ferrari Chauffaille and Luiz Felipe Fleury Vaz Guimarães1
I INTRODUCTION
Over the past years, Brazil has been facing constant and significant development of its equity and debt capital markets’ regulatory framework. Such legal framework has been subject to various amendments and updates, in an attempt by local regulators to simplify and modernise rules, promote higher standards of efficiency regarding public offers, promote the adoption of better corporate governance and foster access to the capital markets by Brazilian issuers and investors.
Despite the current economic crisis, from the second half of 2014 until this moment, a number of public offerings have been implemented in the local markets, including registered equity offerings (Telefônica Brasil SA and FCP PAR Corretora de Seguros SA offerings) and registered debt offerings (among which the public offering of debentures by Cielo SA and Vale SA). The local market also verified a large number of restricted public offerings (‘476 offerings’, which are granted with automatic registration provided that the securities are only offered to a limited number of qualified investors), in an amount totalling approximately 28 billion reais, if considering only 476 offerings of debentures in 2015.
The number of debt securities offerings may be explained by recent local rules enacted to foster access to the capital markets for the long-term financing of infrastructure projects of local companies and the development of the debt securities secondary market (as per the provisions set forth by Law 12,431, enacted on 24 June 2011, which created the ‘infrastructure debentures’). In recent months, a number of companies have relied on public offerings of these types of infrastructure debt instruments to obtain their required funding for infrastructure projects, such as CCR, Vale, EDP, Arteris, among others.
1 Ricardo Simões Russo is a partner and Gustavo Ferrari Chauffaille and Luiz Felipe Fleury Vaz Guimarães are associates at Pinheiro Neto Advogados.
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Notwithstanding the current crisis affecting the Brazilian economy, the current scenario of the local capital markets evidences that companies with a need for long-term financing (and investors with a demand for adequate investments) now have all the necessary tools and mechanisms – and are indeed relying on such instruments – to use the local equity and debt capital markets for their funding and capital needs.
i Current legal framework
The Brazilian financial and capital markets system is a highly regulated sector and is essentially composed of regulatory bodies, such as the National Monetary Council (CMN) and the National Council of Private Insurance; and supervisory bodies, such as the Central Bank of Brazil (the Central Bank or BACEN) and the Brazilian Securities and Exchange Commission (CVM), which supervise, regulate and inspect, as the case may be, publicly held corporations, financial institutions, stock exchanges, among other entities.
According to Brazilian securities law (Law 6,385, of 7 December 1976, as amended), the CVM regulates, develops, controls and inspects the securities market. The CVM is also responsible for regulating the examination and inspection of publicly held companies, the trading and intermediation of the securities and derivatives markets, the organisation, functioning and operation of stock markets, commodities and futures markets, as well as the management and custody of securities.
Typically, federal laws applicable to the capital markets in Brazil contain general provisions and their main purpose is to establish what Brazilian capital markets comprise, who may be the agents of the market, the different independent agencies that have powers to oversee it and the limits of their authorities. The regulations that set forth the specific set of rules that each player and transaction has to comply with are the CVM’s instructions, Central Bank circulars and CMN resolutions. This system benefits the Brazilian capital markets as the enactment of laws is a very bureaucratic procedure that cannot keep pace with the constant changes financial and capital markets suffer and the enactment of Central Bank, CMN and CVM regulations involves a more quick and effective way of regulating such markets.
Most of the relevant capital markets regulations have been issued recently by the CVM, in an attempt to update and modernise the Brazilian market. Among such regulations, it is worth mentioning:a Instruction No. 358, of 3 January 2002, which contains rules on the disclosure
and use of relevant information regarding publicly held corporations, and restrictions on the trading of securities;
b Instruction No. 361, of 5 March 2002, with rules on tender offers;c Instruction No. 400, of 29 December 2003, which sets forth the rules applicable
to public offerings of securities in the local market;d Instruction No. 476, of 16 January 2009, which contains rules applicable to
automatic registration of public offerings to qualified investors (restricted offers);e Instruction No. 480, of 7 December 2009, with provisions on the registration as
a publicly held corporation in Brazil;
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f Instruction No. 559, of 27 March 2015, with provisions on the approval of depositary receipt programmes of Brazilian securities, to be negotiated abroad; and
g Instruction No. 560, of 27 March 2015, with provisions on the registration, requirements and disclosure of information regarding foreign investors.
The structure of the Brazilian financial and capital markets is also composed of a self- regulatory agency called Associação Brasileira das Entidades dos Mercados Financeiros e de Capitais (ANBIMA), which created a set rules with increased corporate governance for its associates (banks, underwriters, brokerage firms, investment banks, among others) to comply with. Currently, ANBIMA has a partnership with the CVM, in order to expedite the registration of follow-on offers. By means of such partnership, ANBIMA is responsible for examining and making demands as regards offering documents (ANBIMA’s time limit to make demands is much shorter than the CVM’s on a regular public offer) and after ANBIMA is satisfied with the documents, they are subjected to the CVM for its final approval of the public offering.
Brazil currently has one registered stock exchange that allows companies to publicly trade their shares, which is BM&FBOVESPA. It is worth mentioning that, in addition to the set of regulations provided by the CMN, the CVM and the Central Bank, publicly held companies that wish to trade their shares on the stock exchange must also comply with BM&FBOVESPA’s regulations (which contemplate, among others, regulations on minimum corporate governance requirements that must be observed by listed corporations). In terms of debt securities (commercial papers, debentures, among others), typically the trading of publicly offered securities is verified in authorised custody and settlement entities, such as CETIP SA – Mercados Organizados (or simply CETIP), which also sets forth rules and regulations to be complied with by all participants of its electronic trading system.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
Foreign investments in Brazil and depositary receipts Foreign investments in local capital and financial markets must be duly registered with the Central Bank of Brazil. On September 2014, the National Monetary Council enacted Resolution 4373, which updated and simplified provisions regarding the registration of foreign investments in Brazil. This new rule also brought provisions regarding the implementation of depositary receipt programmes by Brazilian companies. The intention of local regulators with the enactment of this new regulation is not only to modernise and simplify the rules applicable to foreign investments and depositary receipt programmes, but also to implement new mechanisms to increase the volume of foreign investments in Brazil and new mechanisms for Brazilian companies to access foreign markets.
One of the most emblematic changes set forth by Resolution 4373 (which became effective in March 2015) involves the possibility for depositary receipts to have as underlying securities not only equity securities (shares or other securities that represent equity rights issued by publicly held companies in Brazil) but also debt securities (also
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known as global depository notes (GDNs)). In other words, Brazilian publicly held companies may rely on depositary receipts issued in foreign markets that represent, among others, debentures, notes and certificates of real estate receivables, all of them issued in Brazil. An important aspect of this regulation is that Brazilian companies may access foreign capital while foreigners do not necessarily have to acquire securities traded in Brazil, but merely invest in a foreign stock exchange where the depositary receipts are traded.
Upon the effectiveness of Resolution 4373, the CVM enacted regulations to supplement and provide further details on this resolution (in terms of procedures for the registration of foreign investors, requirements for the approval of depositary receipt programmes, among others). In this regard, on 29 November 2014, the CVM enacted Instruction No. 559, with provisions regarding depositary receipt programmes, and Instruction No. 560, with provisions regarding information to be provided and registration that need to be obtained by foreign investors that are willing to invest in the local financial market.
Another innovation brought by Instruction No. 559 is the increase of the term for calling a shareholders’ meeting for companies with depositary receipt programmes that have as the underlying assets shares with voting rights. Generally, under local corporate laws, a call notice must be published within 15 days prior to shareholders’ meetings of listed corporations; such term is now of 30 days for companies with sponsored depositary receipt programmes.
New general regulatory framework for investment fundsOn 17 December 2014, the CVM enacted Instruction No. 555 in order to modernise and update the general regulatory framework for investment funds. Some of the provisions included a new regulation aimed at including the CVM’s decisions and opinions (case law) in the past few years, which were already a consolidated precedent and a market understanding.
The main changes introduced by Instruction No. 555 were:a the CVM rationalised the volume and the method of required disclosures by
investment funds. For instance, a supplementary information form was created, in which funds must disclose (among other aspects) risk factors regarding the funds’ portfolio, as well as a description of applicable fees and taxes that are charged from investors. Upon the use of such form, other documents that contained this type of information will only refer to such form;
b the CVM increased the level of disclosure regarding service providers, including the disclosure of fees, as well as establishing new methods to calculate and charge certain fees, such as the administration and performance fees;
c it promoted changes on the concentration limits for investments on foreign assets and custody rules for such assets, among others;
d it altered the classification of investment funds rationalising and simplifying the classification (which, from now on, is focused on the underlying assets that compose the portfolio of the fund); and
e it is considering the introduction of the concept of the professional investor (as described below) and established certain exceptions to such investors.
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Classification of qualified investorsOn 17 December 2014, the CVM enacted Instruction No. 554, which changed the definition of qualified investors in Brazil and introduced a new classification of investors, known as ‘professional investors’.
Professional investors are, among others: financial institutions; insurance firms and special savings companies; supplementary pension entities; individuals or legal entities with financial investments over 10 million reais that state in writing that they are in fact professional investors; investment funds; and foreign investors.
Qualified investors are, among others: professional investors and individuals or legal entities with financial investments over 1 million reais that state in writing that they in fact are qualified investors.
The goal in creating the different types of investors is to allow the CVM to focus the supervision of the capital markets, enhancing its protection over common investors and decreasing bureaucratic and unnecessary requirements and regulations for highly qualified investors, that can better assess the risks involved on their investments. In that sense, the CVM updated several of its rules to reflect such approach, among which investment funds destinated exclusively to professional investors will have more flexibility, for example, in relation to the establishment of an alternative method of calculation of service providers fees, among other matters; and securities subject to restricted 476 offerings can only be offered to qualified investors and are granted with automatic registration.
Additionally, Instruction No. 554 promoted changes in the rules regarding suitability (mandatory verification, by securities advisors and underwriters, as to whether the securities being offered are suitable for their clients). The new provisions establish, among other changes, that no suitability verification must be made if the investor is a qualified or professional investor (except if the investor is a natural person, deemed as professional or qualified investor due to the amount of investments held); is a state-owned company; or has its portfolio managed by a securities portfolio manager registered with the CVM.
Commercial papersOn 31 July 2015 the CVM enacted Instruction No. 566, which has compiled, modified or even revoked the content of several other rules in order to provide a single treatment to the provisions applicable to offerings of commercial paper in Brazil.
It is now clear that commercial paper offerings may be issued by limited companies and not only by joint-stock corporations. The term for the expiry of commercial paper for any issuer has been increased to up to 360 days. Restricted offerings of commercial paper issuances (implemented under Instruction No. 476) in which a fiduciary agent is involved (representing the rights of all commercial paper holders) are exempted from complying with this maximum term of expiry.
The CVM’s goal with the enactment of this new rule was not only to provide better access by local corporations to this short-term type of debt instrument but also to simplify and provide better access to the stock market by small and medium-sized companies.
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Mergers, consolidations and spin-off transactions involving publicly held companiesOn 15 June 2015 the CVM enacted Instruction No. 565, which regulates mergers, consolidations and spin-off transactions involving ‘category A’ publicly held companies.2 Among the improvements introduced by Instruction No. 565 it is worthwhile mentioning: the content of the company’s disclosure to the market regarding mergers, mergers of shares, consolidations or spin-off transaction transactions; officers and directors of publicly held companies’ fiduciary duties regarding the quality of the disclosed information; and criteria and content of the required appraisal reports to be prepared in connection with these corporate reorganisations.
Corporate governance for state-owned companies programmeIn Brazil, state-owned companies have an important role in several business sectors. However, there is a perception on the market that publicly held state-owned companies do not have the highest standards of disclosure and that the decision-making processes may be overwhelmingly influenced by the government’s public policies in detriment of other shareholders’ interests.
In that sense, BM&FBOVESPA created, on 30 September 2015, the ‘Programa de Governança de Estatais’, which comprises a great number of corporate governance mechanisms, divided into four categories: transparency, internal controls, management and commitment of the state controlling shareholders. The objective of this programme is to assist in the process of regaining trust from the market by state-owned companies listed in the stock exchange and consequently lowering the cost of capital for such companies.
An interesting point of the programme is that there are two categories for the companies that join it. The first category is for companies that adopt all of the corporate governance mechanisms provided for in the programme, while the second category is for companies that adopt six mandatory corporate governance mechanisms and a minimum punctuation among the optional corporate governance mechanisms. No state-owned company is currently able to adhere to the first category, which will only be possible with some regulatory improvements. In other words, the government itself will change its way of dealing with state-owned companies in the pursuit of the best corporate governance standards.
Transactions with shares owned by the company itselfOn 17 September 2015, the CVM enacted Instruction No. 567 and Instruction No. 568, which revoked former rules regulating transactions made by publicly held companies, or their associated or controlled companies, involving shares issued by the company itself (either with the purpose of keeping the shares in treasury or cancelling such shares).
The changes were introduced in order to update, simplify and add CVM consolidated understandings that were not present in former rules. These new instructions set forth, among other provisions, that transactions with derivatives linked to shares
2 ‘Category A’ publicly held companies are those allowed to publicly offer any kind of securities – being the only category allowed to publicly offer shares.
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issued by a company are now regulated and limited to 10 per cent of the company’s free float; that the approval by a shareholders’ meeting is required in certain cases, in order for the company to be allowed to negotiate with its own shares (formerly, the board of directors could authorise all such transactions); and an increase of the term for the settlement of authorised transactions (from up to 365 days to up to 18 months).
Infrastructure debenturesAlthough enacted in 2011, Law 12,431 (which created infrastructure debentures) was subject to certain amendments during 2011 and 2012 and it was only from 2013 to 2014 that public offerings of such instruments began to take place.
These debt instruments may be issued by local companies that have infrastructure projects deemed as relevant by local authorities in the following sectors: energy, telecommunications, transportation, urban mobility, aviation, science and technology, among others. The minimum requirements for these securities include a minimum term of four years; indexation based on local price indexes; interest to be paid at least every 180 days; offer proceeds to be used exclusively for the purposes of the infrastructure project; among others. In order to foster the use of such long-term funding alternatives by local companies, the federal government created tax exemptions applicable to investors of infrastructure debentures (such as zero per cent withholding income tax on interest paid to individuals and foreign investors).
Recent public offerings were implemented by utility concessionaire companies (CCR Via Lago and Autopista Planalto Sul, which implemented offerings in the amount of 250 million reais together), MRS Logística (336 million reais), Salus Infraestrutura (320 million reais), among others.
ii Cases and dispute settlement
A recent ruling by a federal judge from New York is very important for Brazilian capital markets, as it discussed the appropriate jurisdiction to have competence to rule over discussions involving Brazilian companies with arbitration clauses in their by-laws (as is the case of companies registered at the higher corporate governance levels of the BM&FBOVESPA, once the inclusion of such provisions is mandatory).
In this regard, several Petrobrás investors recently initiated class actions in foreign courts, claiming alleged irregularities and breaches to Brazilian and US securities laws in connection with findings derived from corruption investigations involving the company that are being conducted in Brazil. Such investors ignored the fact that Petrobrás’ by-laws established that any claims regarding the Brazilian Corporations Law, the company’s by-laws, rules enacted by the Central Bank, the CMN and the CVM, among others, involving the company should be settled by a Brazilian court of arbitration, namely the Câmara de Arbitragem do Mercado da BM&FBOVESPA (CAM). In these claims, investors requested the declaration of annulment of the arbitration clause established in Petrobrás’ by-laws. The main arguments for such annulment were that irregularities were verified on the call notice and procedures adopted on the general shareholders’ meeting that approved the inclusion of the arbitration clause in the company’s by-laws; and the company included the arbitration clause when CAM’s regulation determined
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that only shareholders that signed an instrument of consent were entailed and subject to arbitration jurisdiction.
The ruling issued by this foreign court determined that the arbitration clause was valid and mandatory for all Petrobrás’ shareholders, stating that Brazilian laws and regulations, at the time of the inclusion of the arbitration clause, expressly allowed arbitration as a way for settling disputes between companies and its shareholders, as provided by the Brazilian corporations law; that it is not possible to require that the inclusion of an arbitration clause on a company’s by-laws, in order to entail all shareholders, must be approved unanimously by all shareholders, as Brazilian corporation law does not list such resolution as requiring unanimous approval; and that the call notice for the shareholders’ meeting that approved the inclusion of the arbitration clause was sufficiently clear as to the resolutions to be decided on such meeting.
This decision has been very important in reinforcing the effectiveness of arbitration clauses included in the by-laws of Brazilian companies, making it mandatory that claims be settled by the appointed court of arbitration.
iii Relevant tax law
On 31 August 2015, the Federal Revenue Offices (Brazilian IRS) enacted Normative Ruling No. 1,585 of the Brazilian Federal Revenue (IN 1,585), aiming at updating and consolidating rules regarding the taxation of income and gains recognised by local and foreign investors on financial transactions carried out in the Brazilian markets.
Before the introduction of IN 1,585 it was common that investors contributed their equity interest on corporations to investment funds and, whenever such corporations paid dividends, they were paid directly to the quotaholders of the funds, such amounts being exempted from income tax, as the legal nature of said payments would remain as dividends (which are exempted from income tax under the current tax regulations).
According to this new regulation – the lawfulness of which in respect to this specific provision is debatable – the direct on-payment of dividends by investment funds whose portfolios are focused on equity interest to its quota holders would be treated as a legal act equated to a redemption or amortisation of quotas and, therefore, the withholding income tax would apply at the general 15 per cent rate.
Specific rules for new types of investmentOn 5 September 2013, the CMN issued Resolution No. 4,263 (CMN Resolution 4,263), regulating the issuance by Brazilian financial institutions of a new funding instrument: structure transaction certificates (COEs). COEs are ‘certificate(s) issued against initial investment, representing a single and indivisible set of rights and obligations, with a remuneration structure presenting characteristics of derivative financial instruments’ and may be issued exclusively by multiple banks, commercial banks, investment banks and savings banks, in book-entry form and upon registration in registry and settlement systems authorised by the Central Bank or the CVM.
According to IN 1,585, COEs’ profits are subject to income tax at a regressive tax rate starting at 22.5 per cent until 15 per cent. If the settlement of the COE occurs through the delivery of the assets, including shares, the acquisition cost of the asset can be deemed as the acquisition cost of the COE. Losses arising out of COE investment cannot
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be compensated with profits on equity transactions by a natural person; nevertheless, legal entities can deduct such losses from their taxable profits.
Tax exemption of income tax on capital gains of a natural person on investments on various securitiesFormer regulation exempted certain debt securities (real estate letters of credit (LCIs), agricultural letters of credit (LCAs), agricultural receivable certificates (CRAs), real estate receivable certificates (CRIs), certificates of agricultural deposit or agricultural warrants (CDA/WAs), agribusiness credit rights certificates (CDCAs) and rural product certificates (CPRs)) from income tax, nevertheless they were not exempted from tax over capital gains. According to the provisions of IN 1,585, such investments are exempted from tax over capital gains – a positive change that has been requested by the market for a long time.
III OUTLOOK AND CONCLUSIONS
Brazil has a comprehensive legal framework in terms of securities laws and regulations applicable to investors and issuing companies, and requirements that must be observed by each type of equity or debt security. In recent years local regulators have enacted a number of rules completing and updating this legal framework to provide better access to the capital and financial markets by local companies and detailed guidance and transparency to local and foreign investors that are willing to acquire securities issued in Brazil.
This effort – that has been verified in recent months with the enactment of the set of rules described in this chapter (such as CMN Resolution 4373, which created GDNs in Brazil and CVM Instruction 555, which updated the rules applicable to the investment funds industry) – is recognised by the market players. In fact, its results have been verified in practical terms: in spite of the current economic crisis affecting Brazil, a number of securities public offerings (mainly debt securities) have been observed in the local market over the past few months, evidencing that both investors and issuing companies are increasingly relying on the capital markets for their (short as well as long-term) funding and capital needs.
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Chapter 3
BULGARIA
Viktor Tokushev1
I INTRODUCTION
i Structure of the law
The capital markets in Bulgaria are regulated mainly by the following legal acts:a the Public Offering of Securities Act (promulgated by SG2 114/1999, last
amended SG 62/2015) – containing regulation on public companies, as well as requirements to prospectuses for offering of securities;
b the Markets in Financial Instruments Act (promulgated by SG 52/2007, last amended SG 62/2015) – introduced into Bulgarian law the requirements of Directive 2004/39/EC (MiFID);
c the Activity of Collective Investment Schemes and Other Collective Investment Undertakings Act (promulgated by SG 77/2011, last amended SG 34/2015) – introduced into Bulgarian law the requirements of Directive 2009/65/ EC (the UCITS Directive);3
d the Special Purpose Investment Companies Act (promulgated by SG 46/2003, last amended SG 34/2015) – contains regulations of funds that may invest in real estate and receivables;
e the Measures against Market Abuse with Financial Instruments Act (promulgated by SG 84/2006, last amended SG 21/2012) – introduced into Bulgarian law the requirements of Directive 2003/6/EC (the Market Abuse Directive); and
1 Viktor Tokushev is the founder of, and managing partner at, Tokushev and Partners.2 Publishing in the State Gazette (SG) is the official way of announcing new legislation in
Bulgaria.3 The requirements of Directive 2014/91/EU have not yet been introduced into Bulgarian law.
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f the Financial Supervision Commission Act (promulgated by SG 8/2003, last amended SG 34/2015) – establishes a unified regulatory and supervisory authority of all non-bank financial institutions.
The development of Bulgarian legislation on capital markets has been marked by a clear trend of decodification and harmonisation with EU legislation. Thus, until 2003 the Public Offering of Securities Act (POSA) was the only law that regulated this field. However, now there are five more separate legal acts regulating matters that originally fell within its scope.
Laws regulating capital markets in Bulgaria are harmonised with EU law and there are no substantial differences in the national legislation.
ii Structure of the courts, including any relevant specialist tribunals
The structure of the judicial system in Bulgaria consists of regional courts, district courts, including the Sofia City Court, administrative courts, courts of appeal, the Supreme Court of Cassation (SCC) and the Supreme Administrative Court (SAC). As a general rule, civil cases are heard on three instances, and depending on the material interest, the first instance is a regional or district court, the second is a district or a court of appeal, and the third, when not excluded by the law, is the SCC. Administrative cases are heard in two instances, the first being an administrative court, and cassation – the SAC.
In Bulgaria there are no specialised courts that examine disputes related to capital markets. As a general rule, disputes regarding securities traded on capital markets or between capital markets participants should be heard at first instance by a district court, at second instance by a court of appeal, and if admitted to cassation – by the SCC. Administrative acts of the Financial Supervision Commission (FSC) may be appealed before the SAC.
Outside the system of state courts there are numerous arbitration institutions that may hear disputes regarding capital markets in one instance. The arbitration institution with the longest history and relatively largest number of cases is the Arbitration Court at the Bulgarian Chamber of Commerce and Industry.
The Rules of the Bulgarian Stock Exchange – Sofia AD (the regulated market of financial instruments in Bulgaria), and in particular its Part VII, provides the existence of an arbitration court at the Stock Exchange, which may hear disputes regarding the conclusion and execution of stock exchange transactions; disputes between members of the Stock Exchange and disputes related to other cases of trade with financial instruments. Despite its specialisation, at the present moment this arbitration court is not established as the main institution that examines capital markets disputes and does not hear a significant number of cases.
There is an arbitration court at the Central Depositary AD (the only depository institution in Bulgaria). Within its authority is to hear disputes between members of the Depository (banks, investment intermediaries and international depository institutions), disputes between the Depositary and its members, between participants in the settlement system operated by the Central Depository AD, between the Depositary and participants in the settlement system, as well as complaints from entities who are not admitted to membership in the Central Depository AD. Similar to the arbitration
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court at the Bulgarian Stock Exchange – Sofia, and due to its scope of jurisdiction, this arbitration court is also not of particular importance to the capital markets.
iii Local agencies and their, and the central bank’s, respective roles
With the adoption of the Financial Supervision Commission Act, Bulgaria introduced the model for establishing one ‘super regulator’ which supervises the entire non-banking financial sector – capital markets, insurance markets and social security markets. Outside the supervision of the FSC are only banks, which are subject to regulation by the Bulgarian National Bank (BNB). When a commercial bank wants to operate as an investment intermediary, it has to obtain a licence from the BNB after the latter has considered the opinion of the FSC.
The FSC is an independent administrative authority, which consists of five members – a chairman, three deputy chairmen who supervise capital markets, insurance markets and social security markets respectively, and a fifth member who is engaged mainly in protecting the interests of consumers of financial services. The chairman and the members of the FSC are elected by the National Assembly.
In terms of regulating capital markets, it is interesting to distinguish the distribution of functions between the FSC and the deputy chairman supervising capital markets. At the proposal of the deputy chairman, the FSC issues licences for operating in the field of capital markets (investment intermediaries, management companies, mutual funds, etc.), authorises the transformation of the participants in the capital market, confirms the prospectuses for public offerings of securities, etc. The deputy chairman independently issues the provided by law permits and approvals (for acquisition of a qualifying shareholding, for transformation of public company, etc.), and imposes compulsory administrative measures and penalties on capital markets participants, among other things.
The FSC provides guidance on the application and interpretation of laws regulating the activities of non-bank financial institutions, including laws regulating capital markets, referred to in Section I.I, supra), as well as secondary legislation on their implementation.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
The last significant changes in the regulation of offering debt and equity securities were adopted at the end of 2012, when amendments to the POSA (promulgated by SG 103/2012) introduced into Bulgarian law the requirements of Directive 2010/73/EU amending Directive 2003/71/EC on the prospectus and Directive 2004/109/EC on the harmonisation of transparency requirements (Directive 2010/73/EU). The amendments affected a number of significant areas and are discussed below.
There have been amendments to the regime for announcing information regarding public offerings, which have been adopted to synchronise the announcement regime and ensure broad access to information in relation to the public offering. The requirement for announcement of the public offering by publication in the State Gazette was removed. Instead, it must be announced in the Trade Register, published in two daily newspapers,
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and on the website of the issuer. The number of persons to whom the offering may be targeted without a prospectus being required was increased from 100 to 150. Likewise, the value of the offering for which a prospectus is not required was increased from the BGN equivalent of €50,000 to the equivalent of €100,000.
The most numerous and significant are the amendments in the regime of public offering of bonds. First, the scope of application of the requirements was extended and now includes bonds, which are subject to admission to trading on a regulated market without having been subject to an initial public offering (privately placed bonds). A requirement was introduced, pursuant to which the bondholders’ trustee must be approved by the general meeting of the bondholders in order to avoid unilateral determination by the issuer and to guarantee the interests of the bondholders. An additional requirement was introduced to the contents of the prospectus for bonds, as well as to the proposal for private placement, which must expressly state the conditions and procedures for making changes to the terms of the bond issue, including the requirements for a quorum and a majority of the general meeting of bondholders when adopting decisions for changing the parameters of the issue. Amendments were made to the issuer’s obligations for a report on the bond loan with respect to the frequency of the report and its submission in order to synchronise the regime, providing timely information to bondholders and the trustee bank on the status of the issuer and performance of obligations under the bond issue. The requirements for the information provided by the issuer to the trustee bank have been supplemented in order to improve the awareness of the trustee bank and to ensure the performance of its functions.
Amendments specifying and supplementing the obligations of the trustee bank were introduced: short deadlines are provided for performance of the obligation to analyse the financial condition of the issuer, requesting additional information upon establishing worsening of the financial condition of the issuer; the deadline for submission of a report from the trustee was changed; the information required to be announced with the report was expanded; and an obligation to monitor the timely payments of the fixed amounts due on the bond issue was introduced. The requirements for performing the assessments of collaterals have been amended; the trustee is obliged to assign it, and cases for performing an assessment are expressly specified, in order to ensure assessment by independent appraisers and a clear definition of the assessment conditions.
Also introduced are amendments regarding the disclosure of information by the issuers, which aim to avoid conflicts when applying requirements for disclosure of information and unification of the regime for disclosure in the whole act. The range of obligated persons is more precisely determined; the form of interim reports is clearly defined, similarly to the annual reports; and an obligation to present the minutes of the general meeting of bondholders has been introduced, similarly to the obligation for the general meetings of shareholders.
ii Developments affecting derivatives, securitisations and other structured products
The last significant changes in the regime of structured products were adopted at the end of 2013, when with the amendments to the Activities of Collective Investment Schemes and other Collective Investment Undertakings Act (promulgated by SG 109/2013) the
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requirements of Directive 2011/61/EU – the Alternative Investment Fund Managers Directive (AIFMD) were introduced into Bulgarian law. Changes were also adopted in the regulation of the existing collective investment schemes (CISs) and undertakings for collective investment which are not CISs. The more important amendments are aimed at:
Exchange traded fundsUntil the adoption of the amendments, the majority of existing CISs were admitted to trade on the exchange, but there was actually no trade with them. This was due to the fact that it did not bring any reputational or tax benefits, since all funds may be admitted, and transactions on the exchange and redemption are treated equally in terms of taxation. After the change, there is now a clear distinction between funds admitted to trading and those not granted such possibility. For admission to trading the law requires two cumulative prerequisites: the shares are to be traded during the whole trading session of the market; there must be a concluded contract with at least one market maker, ensuring that the market price of the shares would not differ significantly from the net asset value, respectively the indicative net asset value. There are additional requirements for the information that shall be included in the prospectus and in the documents with key information for investors. Practically the most significant difference between the exchange-traded funds and CIS is that the former may restrict redemption to a certain category of investors or for a specified minimum number of shares.
Alternative investment fundsBulgarian law, like the AIFMD, does not explicitly regulate alternative investment funds (AIFs); instead these funds are regulated by introducing rules for their managers. According to the only provided definition, an AIF is a collective investment undertaking, including its investment sub-funds, which is different from a CIS, and which invests funds that are raised by more than one person, in accordance with a defined investment policy for the benefit of these persons, as raised funds are invested and the profitability is realised on the principle of pooling the risk and profitability among investors based only on the share of their investments, without the formation of investment portfolios of individual investors. Thus it may be concluded that the main difference between the AIF and the CIS are the assets in which they invest.
The requirements are applicable only to managers of AIFs (AIFMs), which are always legal entities whose main scope of activity is managing an AIF. Depending on the value of managed assets, they may be under a licence regime if they exceed certain thresholds (€100 million when using leverage, respectively €500 million if they do not use leverage) or may be subject only to registration if they fall below the thresholds. The law introduces detailed requirements for capital, management, activities of AIFMs (management of conflicts of interest, remuneration policy, general requirements associated with due diligence), requirements in relation to AIFs (assessment rules, a requirement for depository, disclosure of information). AIFMs registered in Bulgaria may offer shares of an AIF only to professional investors on the territory of Bulgaria.
Special purpose investment companies, dealing with securitisation, are explicitly excluded from the scope of the provisions for AIFs. It is also expressly provided that the newly established national investment funds are AIFs.
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National investment fundsUntil the adoption of the said amendment, in addition to the CIS, as undertakings for collective investment existed only as closed-ended type investment companies (which invest in assets like CISs, the regime is similar to that of the CIS, but there is no redemption, and not all of the requirements for CISs apply).
The new amendments introduced four categories of national investment funds (NIFs), which invest funds raised through public offering into negotiable securities or other liquid financial assets on the principle of risk pooling. The four categories are open-ended type investment companies (ICs) and contractual funds (CFs), which like the CIS provide redemption, and closed-ended type with no redemption except as provided under the CA. They are managed by a management company (MC) or an AIFM, and the closed IC may be managed by a board of directors (internally managed, in which case an investment adviser is required).
Where they are CFs, NIFs have to be licensed and their management person (MC or AIFM) must obtain permission to manage the NIF, and changes to the by-laws or rules, the rules on net asset value, the rules for risk, the depositary or the contract with it, and the manager are subject to approval. NIFs may invest in financial instruments (regardless of the type unlike CISs), in certificates for precious metals (CISs cannot), and in bank deposits. For NIFs there are investment restrictions (like the CIS, but at other levels), and there is a difference between opened and closed types in the level of restrictions (there is a possibility for a higher concentration of investments in closed NIFs). The offering units or shares of an NIF is based on a prospectus; for the closed type of NIFs the rules for prospectus under the LPOS apply. NIFs are required to provide liquidity, which is achieved through redemption for open-ended NIFs and through requirement for the units or shares of a close-ended NIF to be admitted to trading on a regulated market.
iii Cases and dispute settlement
A very limited number of disputes related to the capital markets are heard by a state court. The majority of them are decided by an arbitration institution or settled between the parties, thus there is no public information on them. Subject to review herein are cases for appealed acts of the FSC as they may be of significance for the future regulation or enforcement.
Interpretative powers of the FSCOn 12 May 2012, the FSC adopted a Practice on treatment of repo and reverse repo deals with securities registered at the Central Depository (the Practice). It introduced a number of requirements for the contents of repo deals, including duration of the contract, value of the collateral, as well as a ‘minimum content of contracts for repo’, etc. It should be taken into consideration that there is no explicit regulation of repo deals in Bulgarian law. The Practice was appealed by two pension insurance companies and one individual investor who considered that it does not comply with the law and that the FSC exceeded its jurisdiction in interpreting laws regulating capital markets.
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The SAC upheld the appeal and declared the practice null and void.4 The Court ruled that the FSC had introduced requirements which are not provided for in the legislation governing this type of transaction, and that it introduced obligations for the parties to repo deals which are not provided in any rule of law, regardless of statutory or secondary legislation.
The SAC later invalidated its earlier decision, ruling that the practice adopted by the FSC is not a statutory act and thus could not be subject to administrative appeal by the applicants.5 In addition, the Court stated that the requirements of the Practice are not binding, therefore those affected by its application may defend themselves by appealing in court the relevant acts and establishing the actual content of the legal regulations and their respective interpretation and application.
Although the Practice of the FSC remains in force after those two decisions, they seriously undermine the FSC’s power to interpret laws regarding capital markets, as far as SAC considers this interpretation as not binding for its addressees. On the other hand, the second decision of the Court places the persons, affected by the ‘non-mandatory’ interpretation of the FSC and possibly subject to sanction on its grounds, in a very unsecure position.
Requirements for a tender offerBulgartabac AD (BTH) is one of the largest public companies in Bulgaria with a market capitalisation of approximately 390 million leva. The majority shareholder in the company is a company registered in Austria which holds 79.83 per cent of its capital. In the spring of 2014 a change occured to the ownership of the Austrian company, as a new owner acquired 100 per cent of its capital. According to the FSC, the new owner of the Austrian company is obligated to make a tender offer to the remaining shareholders of BTH because Bulgarian law provides that such an obligation exists for any person who acquires directly, through related persons or indirectly, more than 50 per cent of the votes in a public company. According to the law, persons controlled by another person (for control is considered to be owning over 50 per cent of the capital) are considered to be connected. Given the new owner did not make such tender offer, the Austrian company as a direct shareholder in BTH was banned by the FSC from voting with its shares. This decision was appealed.
The SAC three-judge panel upheld the appeal against the decision of the FSC on the grounds of admission by the FSC of procedural errors and misinterpretation of the law.6 According to the SAC, as the change in ownership took place at the Austrian company, and the number of its shares in the capital of BTH has remained unchanged, there is no case of acquisition by related parties.
4 Supreme Administrative Court, VII Division, three-judge panel, Decision No. 18/01.05.2015 on Administrative Case No. 8812/2013.
5 Supreme Administrative Court, five-judge panel, Decision No. 8697/07.15.2015 on Administrative Case No. 8697/2013.
6 Supreme Administrative Court, VII Division, three-judge panel, Decision No. 13567/12.11.2015 on Administrative Case No. 9951/2014.
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The SAC five-judge panel in its Decision No. 2444/2015 upheld the decision of the three-judge panel. Moreover, in that decision the Court explicitly states that a tender offer should be made only in case of acquisition of new shares in a public company by a direct shareholder or by a person related to such shareholder. The change in control of the direct shareholder in a public company without changing its participation in the capital of the company is irrelevant.
The decisions of the SAC with regard to the interpretation of the law can not be supported. The concept that it is irrelevant who exercises control over a shareholder in a public company, especially in a case with an owner holding over 50 per cent of the capital, is in contradiction with the provisions and the purpose of the law. The decision of the Court creates significant uncertainty for the rights of minority shareholders not only in BTH, but in all public companies on the Bulgarian market.
iv Relevant tax and insolvency law
Tax lawCollective investment schemes which are admitted for public offering in Bulgaria and national investment funds are not subject to corporate tax. Also not subject to corporate tax are special purpose investment companies.
The income of local and foreign individuals and legal persons from transactions on a regulated market (BSE – Sofia AD) with financial instruments is not subject to corporate or income tax. According to the law transactions with financial instruments are the transactions:a with shares and units of collective investment schemes and national investment
funds, shares and rights, executed on a regulated market;b concluded under the terms and conditions of redemption of collective investment
schemes, admitted to public offering in the country or in another Member State of the EU or in a country that is party to the EEA Agreement; or
c concluded under the terms and conditions of a tender offer under the POSA or similar transactions in another Member State of the European Union or in a country that is party to the EEA Agreement.
Under the Corporate Income Tax Act (promulgated by SG 105/2006, last amended SG 22/2015), when the disposition of shares and tradable rights of shares of public companies, stocks and shares of collective investment schemes is performed on a regulated Bulgarian market for securities, when determining the tax financial result, the accounting financial result is reduced by the profit, determined as the positive difference between the selling price and the documented cost for acquisition of these securities, and increased by the loss, determined as the negative difference between the selling price and the documented cost for acquisition of these securities.
The income from dividends distributed by Bulgarian companies obtained from local and foreign individuals is taxed at a rate of 5 per cent, which is charged at the source and is final.
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Insolvency lawInsolvency in Bulgarian law is regulated by the Commercial Act (promulgated by SG 48/1991, last amended SG 27/2015). Insolvency proceedings shall be opened when a merchant is insolvent or overindebted (applicable only for equity commercial companies). Insolvency proceedings may be initiated against both companies and cooperatives, as well as against a sole proprietor and unlimited liability partner in a company. Outside the last two cases, Bulgarian law does not provide insolvency proceedings against an individual. The initiative for the opening of insolvency proceedings can come from the creditor or from the debtor. Insolvency proceedings are opened before the district court at the seat of the merchant. Insolvency acts are subject to registration in the Trade Register under the electronic file of the merchant. Following the opening of insolvency proceedings, the court appoints an insolvency trustee, selected by the first meeting of creditors – an individual who organises the liquidation of the debtor’s assets and distribution of the proceedings between creditors. Except by liquidation of the assets of the debtor the Commercial Act stipulates the possibility for settlement of the creditors by adopting a restructuring plan.
In Bulgaria there is a special law regulating insolvency of banks – the Bank Insolvency Act (promulgated by SG 92/2002, last amended SG 62/2015), therefore the insolvency provisions from the Commercial Act apply subsidiarily for them. Insolvency proceedings against a bank may be initiated only if the Bulgarian National Bank has withdrawn its licence to perform banking activities. Thereafter, the only one entitled to request opening of insolvency proceedings is the BNB. In the insolvency proceedings of a bank there is no meeting of creditors and a reorganisation plan may not be adopted. In the insolvency proceedings of a bank of significant importance is the role of the Bulgarian Deposit Insurance Fund, which protects the interests of creditors and supervises the lawful and appropriate exercise of the powers of the trustee. Although it was adopted in 2002, the Law on Bank Insolvency had not been applied until the bankruptcy of the Corporate Commercial Bank in 2014, thus the proceedings against this bank will be the first to develop under this law and to form practice on it.
The bankruptcy of the Corporate Commercial Bank quickened the adoption of the Recovery and Resolution of Credit Institutions and Investment Firms Act (promulgated by SG 62/2015). This law introduced into Bulgarian legislation Directive 2014/59/EU, which establishes a framework for the recovery and resolution (restructuring) of credit institutions and investment firms. A fundamental objective of this regulation is to establish a common European framework for dealing with banking crises at an early stage, in order to prevent the spread of the financial problems of individual institutions to the entire financial system and to avoid to the greatest possible extent the use of public funds to support insolvent banks and investment firms. The Bulgarian National Bank is the authority designated to restructure banks and the FSC is responsible for restructuring investment firms.
Pursuant to the requirements of the Directive, the banks and investment firms have to draw up and update their recovery plans containing measures and procedures for initiating early action in the event of significant worsening of their financial state. Recovery plans and their annual update are subject to approval by the competent supervisory authority (the BNB or FSC). Early intervention measures are provided for when a bank or investment firm breaches or is close to a breach of capital requirements
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or liquidity requirements established in the respective regulations. Examples of such measures are: changing members of the governing body or appointment of a temporary manager, when it is considered necessary for improving the financial status of the institution or for overcoming the results of committed breaches.
If the state of an institution becomes so serious that its recovery does not seem achievable, the BNB or FSC, as the case may be, will undertake measures to initiate restructuring. The law lays down rules and procedures for restructuring as an alternative to insolvency proceedings in cases where insolvency would threaten the public interest and would be a threat to the financial stability. The restructuring authority may apply the following restructuring tools: sale of the whole business; a bridge institution; separation of assets; and share of losses. These instruments may be applied separately or in combination. There are two additional restructuring tools: the public equity support tool and temporary public ownership. They are government tools for financial stabilisation and apply only in the event of a systemic crisis, as a last resort, if the restructuring objectives have not been achieved. The competent authority to authorise the application of these instruments is the Council of Ministers upon a proposal by the Minister of Finance.
v Role of exchanges, central counterparties and rating agencies
ExchangesThere is one stock exchange operating in Bulgaria: Bulgarian Stock Exchange – Sofia AD (BSE – Sofia AD). BSE – Sofia AD is a regulated market for financial instruments within the meaning of Directive 2004/39/EC and has been licensed to operate by the FSC. Since June 2008, BSE – Sofia AD has used the trading system Xetra, developed by Deutsche Börse. Regulations for trading on BSE – Sofia AD are laid down in Part III and IV of its Rules.
The markets organised by the stock exchange are the Main Market of the Bulgarian Stock Exchange, on which there are nine differentiated segments, and an Alternative Market, on which are two differentiated segments. The principle is that upon initial admission to trading, the shares of a public company are traded on the Main Market, ‘Standard’ segment of shares, as subsequently and in view of the criteria laid down in the Rules (such as number of transactions, turnover, free-float), they may be moved to the higher segment of shares ‘Premium’ on the Main Market or to the lower segment of shares on the Alternative Market. Moving to the Alternative Market is only possible for issues of shares that had previously been traded on another market and only by an ex officio decision of the BSE – Sofia AD.
At present, the state owns the majority of the capital of BSE – Sofia AD (50.1 per cent), and in 2015 yet another attempt for its privatisation will be carried out.
Depository institutionsThe only depository institution entitled to operate in Bulgaria is the Central Depository AD. The Central Depository maintains a national registration system for dematerialised financial instruments and performs: a registration of financial instruments and transfers of financial instruments, as
well as storing and maintaining of data on financial instruments by opening and keeping accounts of their issuers and holders;
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b clearing and settlement of transactions of financial instruments, including keeping monetary settlement accounts and making payments related to transactions with financial instruments;
c administration of financial instruments, including keeping a book of shareholders and holders of other financial instruments, distribution of dividends, interest and other payments; and
d registration of special pledges and financial collaterals on financial instruments; etc.
Central Depository AD operates a system for settlement finality aiming to ensure settlement of transactions with financial instruments.
Similar to the BSE – Sofia AD, the state is the majority shareholder of the Central Depository AD. Therefore, its privatisation is also expected, and it might be privatised together with the stock exchange.
In the middle of 2015 the FSC prepared draft amendments to the POSA, by which Bulgarian legislation will comply with the requirements of Regulation (EU) No. 909/2014 on improving securities settlement in the European Union and on central securities depositories. The proposed changes will create the possibility for more than one depository institution to exist in Bulgaria, including such providing cross-border depositary services. At present, these amendments are still in the draft phase, thus their adoption, as well as specific requirements, will be subject to review in future reports.
Rating agenciesIn Bulgaria there are no branches of any internationally recognised credit rating agencies. The only national credit rating agency is the Bulgarian Credit Rating Agency AD, which was entered in the register of the FSC in 2011. The Bulgarian Credit Rating Agency AD prepares credit ratings of the Bulgarian financial institutions (banks, insurance companies, leasing companies, etc.) and of public (including municipalities) and private bond issuers.
III OUTLOOK AND CONCLUSIONS
We can conclude that the regulatory framework of the capital markets in Bulgaria is well harmonised with EU law and provides sufficient guarantees and predictability for the rights of foreign investors. On the other hand, case study shows that the judicial system is not always prepared to implement this framework.
From the business point of view it should be considered that the capital market in Bulgaria was hard hit by the financial crisis in 2009. The ensuing recession and instability in relation to the euro crisis and the Greek debt also adversely affected the country’s recovery. At mid-2015 trade on BSE – Sofia AD, as turnover and as value of major companies, seems to be far from the levels seen before 2009.
However, the outlook is more positive as Sirma Group Holding, the largest Bulgarian ICT group, launched an IPO on 16 September 2015. The IPO raised capital of 11.5 million leva, which has made it the biggest on the BSE – Sofia AD since 2009.
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Chapter 4
CHINA
Xusheng Yang1
I INTRODUCTION
In China, the head of the state is the President. The national legislature, the National People’s Congress, passes fundamental legislation at its annual meetings; at other times of the year, the Standing Committee of the National People’s Congress passes legislation. The Supreme People’s Court is the highest judicial and appellate body of the land, the judges on which are selected by the National People’s Congress. Local courts are elected by the local people’s congresses. Under the State Council, the highest organ of the administrative branch headed by the Prime Minister, are various ministries, as well as parallel, co-equal bodies including the People’s Bank of China (PBOC), which is the central bank of the nation, the China Banking Regulatory Commission (CBRC), the China Securities Regulatory Commission (CSRC) and the China Insurance Regulatory Commission.
China has neither a universal banking tradition, like continental Europe, nor a US-style ‘financial holding company’ approach that is the cumulative result of decades of erosion of the Glass-Steagall Act. Instead, securities businesses have been traditionally highly circumscribed, as have its coordinate disciplines of banking, insurance and trust activities. As such, securities have been primarily regulated by the CSRC.
The 1998 Securities Law as amended in 2005 reaffirmed the role of the CSRC as an independent institution charged with regulating securities markets, ratifying its status as the securities watchdog of the nation since its establishment in 1992. However, the supervision of markets is split between the CSRC (securities exchanges and commodities or futures exchanges) and the PBOC (the interbank market).
In addition to issuing legal currency and implementing monetary policy, under the 1995 People’s Bank of China Law as amended in 2003, the PBOC has a supervisory
1 Xusheng Yang is a partner at FenXun Partners.
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function over the interbank bond market, the electronic trading facility where government and financial institutions issue and trade bonds and money market instruments, and engage in interbank lending, as well as over-the-counter (OTC) derivative transactions over currencies, interest rates and credit default. The PBOC also controls the gold market, and regulates settlement and clearing systems among banks.
China was not directly ravaged by the global financial crisis of 2008, and it lacked many of the structural characteristics of the financial system outside China that have given rise to responses such as the Dodd-Frank legislation in the US. On the contrary, the financial regulators in China concluded, after the shock of the Lehman Brothers’ collapse, that the problem in the development of China’s market is not financial innovation but rather the lack of it. They believe China’s capital market is still in its initial development stage, and that China’s problems can only be solved through intensified evolution.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
Overview of the equity marketIn November 2013, the CSRC issued the Opinions on Further Developing IPO System Reform (CSRC Opinions) with the goal of developing a registration system for initial public offerings (IPOs). To further demonstrate its strong support for IPO reform, on 9 May 2014, the State Council published a new guideline (New Nine Measures) setting various capital market reform goals which placed the IPO registration system at the top of its agenda.
This policy shift reflects the fact it is no longer feasible for the banking industry (including various forms of shadow banks) to further increase their leverage ratios and help maintain China’s current GDP growth rate. Risks of debt-ridden bubbles are already high in the real-estate industry, local government financing vehicles, and industries plagued by excessive overcapacity and weak competitiveness.
The New Nine Measures explained the need to ‘promote a balanced development of direct financing and indirect financing’ and ‘increase the percentage of direct financing’. By the end of 2013, direct financing (being corporate funding directly from the capital markets) constituted just 45 per cent of GDP and one-sixth of aggregate bank and insurance assets in China. This is in stark contrast with the US, where the capital markets’ capitalisation is roughly equal to both its GDP and aggregate bank and insurance assets. It is hoped that the IPO registration system, combined with other reforms, will sustain the equity capital market’s further liberalisation and performance of its key function of serving the real economy.
The CSRC has laid out a two-stage working plan for the reform. First, it will formulate and release for consultation the implementing proposals for the registration system reform in 2014. Second, as the revision of the Securities Law is a precondition for the registration system, the reform can only take effect once the implementing proposals are approved by the State Council and incorporated into the amended Securities Law. Passage of the amended Securities Law is targeted for 2015.
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The IPO registration conceptUnder a typical registration system as seen in the US and Japan, an issuer is required to disclose all relevant information, but investors must decide themselves whether the securities are fairly valued. Under the approval system that has been adopted in China, a regulator decides whether an issuer is fit to launch a securities offering. It is the CSRC, not the exchanges, that has the power to approve public securities offerings. At present, the CSRC’s decisions are heavily influenced by a number of factors including: the size, diversity and sequence of offerings; issuers, industry and geographic representation; government, financial and industrial policies; and, in light of market liquidity, the need to balance IPO supply with demand.
In devising its framework, the CSRC has studied two types of registration systems. One is the US-style model, where the Securities and Exchange Commission’s (SEC) purpose in reviewing a draft prospectus is to ensure adequate disclosure, rather than to determine the merits of the offering. In the US, the threat of securities class actions is a serious consideration for issuers. Material information that must be disclosed in a prospectus must be complete and not misleading, and according to detailed rules governing disclosure. The US registration regime is therefore often described as disclosure-based.
The other model is a modified registration system, as adopted by the Hong Kong regulators. Like their US counterpart, the Hong Kong regulators conduct only limited reviews of IPO applications. Their attention focuses on disclosure issues and ex post regulation. But the dominance of its retail investor base and its lack of shareholder class action system means the Hong Kong regulators are able to veto IPO applications with risks that cannot be controlled through disclosure.
In Hong Kong, both the issuer and its business must, in the opinion of the Stock Exchange of Hong Kong, be suitable for listing. Despite this subjective and substantive test, the purpose of the review is only to eliminate very risky investments, rather than make business judgements for the market to sift out good investments. This is evidenced by the high IPO approval rates which were 87.3 per cent, 95.5 per cent and 97.6 per cent for 2012, 2011 and 2010 respectively.
In designing the implementing proposal for its registration system, the CSRC’s preference has shifted from the US-style to the Hong Kong-style and most recently to the so-called China-style registration system. China’s less mature market and local conditions means the CSRC now believes it must develop its own registration system to accommodate the special characteristics of the country’s capital market.
The challengesWhile it is still not clear what the China-style registration system will be, the CSRC Opinions point out that disclosure will be its key foundation. In China, however, disclosure and merit regulation have functioned together in an interdependent relationship. Disclosure is often used as a means to achieve the goals of a protectionist and paternalistic government and regulator. Therefore, a by-product of this hybrid regulation is seemingly more onerous and complicated disclosure requirements than more developed markets. While there is always space to improve disclosure rules in both a practical and technical sense, China has already established a largely comparable
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framework to that seen in the US and Hong Kong. What is challenging for the CSRC under the registration system is how to clearly define its philosophy of implementation.
CSRC chairman Xiao Gang has shed some light on his understanding of the issue. He explained that the test should no longer be to review for veto purposes, but to assure the quality of disclosure. This leads to tantalising questions, namely, whether this means the CSRC would give the green light to all applications that can pass its formal review? This would essentially be the US-style registration system. Alternatively, what degree and form of merit review should be retained if it is needed in the China-style system? It would risk sliding back to the approval system if more merit review is exercised than in Hong Kong.
Aside from the ex ante review of prospectuses, there is another aspect of the disclosure system, namely how to protect investors’ interests with administrative enforcement and judicial remedies. Without those ex post protections, fraudulent issuers looking to exploit their newfound access to the capital markets could turn the registration system into an application game akin to rolling the dice and seeing what happens. Some officials and scholars have argued that, as China’s judicial system and CSRC enforcement are still weak, the CSRC should continue exercising merit review until rule of law takes hold in the securities industry.
Registration system preconditionsIn China, regulators often cite ‘imperfect conditions’ and ‘risks’ as excuses to delay reform. This is the environment of moral hazard created by an approval and merit review system in which unsophisticated investors, rent-seeking activities, and short-sighted behaviour of listed companies breed. Meanwhile, lenient penalties fail to deter rampant fraud. Desperate diseases require desperate remedies. The single most important condition for developing a registration system in China is that the CSRC has the means and the will to strictly enforce laws and penalties.
Overview of the debt marketChina is the world’s third-largest bond market by capitalisation, at 25 trillion yuan on 30 September 2013. It is split into two distinct segments: the interbank bond market, the larger of the two, is regulated by the PBOC and operated by the semi-governmental National Association of Financial Market Institutional Investors (NAFMII); and the exchange-listed market, which operates through the nation’s two stock exchanges and is regulated by the CSRC.
The primary market is further divided into five segments by types of bonds and their respective regulators. The Ministry of Finance regulates treasury bills; the CBRC and the PBOC regulate financial bonds issued by financial institutions; the National Development and Reform Commission (NDRC) regulates enterprise bonds issued mainly by state-owned enterprises (SOEs); NAFMII regulates debt financing instruments issued by non-financial institutions; and the CSRC regulates the public issuance of company bonds by listed companies.
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Regulatory competitionThese different regulatory schemes have created a fragmented market structure, in which similar transaction types are subject to different rules. Chinese regulators have been relentless in developing and expanding their jurisdictional territory, in the belief that the market’s underdevelopment, inadequate scale and limited access by small and medium-sized enterprises (SMEs) are bigger problems than its fragmentation.
For example, in September 2007 the CSRC introduced company bonds, removing restrictions on interest rates and the requirement for a guarantee. In January 2008, the NDRC streamlined its review process for enterprise bonds, combining the steps of approving issuance size and issuance itself. In April 2008, the PBOC replaced the approval system for debt financing instruments with a registration system and authorised NAFMII to exercise self-regulation over corporate debt instruments. This market-based measure has enabled NAFMII to introduce a series of innovative products, such as super short-term commercial paper (SCP), SME collection notes (SMECN), commercial paper (CP), medium-term notes (MTN), privately placed notes (PPN) and asset-backed notes (ABN). It has also greatly improved the efficiencies of bond offerings. MTNs, which were introduced in 2009, are a good example. This asset class’s aggregate outstanding principal amount at the end of 2009 had exceeded that of enterprise bonds, which had over 20 years of history.
Although most corporate bonds are sold to institutional investors in the wholesale market, a retail market exists on the exchange markets, albeit on a much smaller scale. The CSRC has to protect retail investors who may be investing in a security without creating undue burdens for issuances that are targeted primarily to institutional investors. Another challenge for the CSRC has been to develop a corporate bond regime that ensures the same level of information disclosure required for equity deals, without putting the exchange markets at a competitive disadvantage in relation to NAFMII’s corporate bond market. To avoid the potential loss of market share, the CSRC is in the process of further relaxing its review of bond offerings by listed companies. From May 2012, the CSRC started to allow non-listed SMEs to offer high-yield notes on a private placement basis, which can be registered with and traded on exchanges.
Regulatory competition has even extended to clearing and settlement. Three clearing and settlement institutions operate in China: China Central Depository and Clearing (CCDC), which is predominantly regulated by the CBRC; the PBOC-regulated Shanghai Clearinghouse (SCH); and China Securities Depository and Clearing Corporation (CSDC) which is regulated by the CSRC. In November 2009, the PBOC set up the SCH in the interbank bond market to implement the G20 commitments. SCH now qualifies as a ‘qualified central counterparty’ for the purpose of the regulatory capital requirements under Basel III. From November 2011, the PBOC started to move the custodian business of CP, SCP, PPN, asset-backed securities (ABS) and MTN from CCDC to SCH. This has seriously weakened the dominant status of CCDC in the interbank bond market and turned SCH into the de facto clearing institution for corporate bonds. As a result of this change, CCDC may have to reposition itself as the clearinghouse for treasury bills, central bank bills and financial bonds. It is hoped that CCDC will focus on its role in the development of a well-defined and riskless yield curve
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for government bonds (which is the most basic building block for pricing), valuation, and risk management in both the primary and secondary corporate bond markets.
To fully connect and open up the exchange markets and interbank bond market, it is necessary to have a unitary custodian/clearing account across these platforms. However, it should be noted that the PBOC and CSRC have generally found it challenging to negotiate the creation, approval and regulation of cross-market products.
Take credit assets securitisation as an example. One likely solution that is being considered is to establish two back-to-back special purpose vehicles (SPV) with one pooling the credit assets under a trust and depositing trust certificates with CCDC/SCH, and the other pooling funds under a collective investment scheme and depositing shares with SCDC.
Two types of cross-market bonds exist in the market today – treasury bonds and enterprise bonds – and in January 2013 the CSRC approved the first treasury ETF and the first enterprise bond index ETF. Interbank bond investors are now able to transfer the custodian of their bonds from CCDC/SCH to SCDC, and subscribe for ETFs on exchange markets. The treasury ETF has also become the underlyer of the new treasury futures that were introduced by the Shanghai Financial Futures Exchange in September 2013. To further import bonds and liquidity from the interbank bond market to the exchange markets, and enhance arbitrage opportunities, it is believed that the CSRC will approve more innovative ETFs.
Legal restrictionsFor decades, banks have been a main source of funding in China. Relationship-based lending and an over-banked market are a constraint on China’s credit market. Pricing for issuers tends to be distorted by the banks providing loans at low rates (based on low deposit yields) and over-simplified legal documentation. A typical Chinese bond includes few negotiated covenants or events of default, and a payment or bankruptcy default is usually the only grounds for remedial actions. Despite considerable progress, bankruptcy laws that limit bondholders’ ability to enforce unsecured securities in a timely manner remain a challenge to the development of China’s bond market.
Both the exchange market and interbank market have introduced the concept of indenture trustee, but in practice the lead underwriter performs the trustee role. One reason why underwriters are chosen to serve this role is because they have been heavily involved in the deal execution process, and therefore have a good understanding and knowledge of the issuer. This practice differs markedly from more developed debt markets such as the US. To ensure indenture trustees act in the utmost interest of bondholders, the US Trust Indenture Act of 1939 prohibits qualified trustees from having any conflict of interest with bondholders.
A further constraint on the development of the bond markets is Article 16 of China’s Securities Law. This states that to be eligible for a public offering of bonds, an issuer’s aggregate outstanding amount of bonds shall not exceed 40 per cent of its net assets. In fact, PPN and ABS were created to circumvent this restriction. Since June 2012, NAFMII allows issuers with a rating of AA or above to separately calculate their quota for CP and MTN offerings, provided that MTN is counted together with enterprise bonds and company bonds.
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ii Developments affecting derivatives, securitisations and other structured products
DerivativesDespite being important tools for risk management and catalysts for market liquidity, derivatives and risk-mitigating systems (such as netting, central clearing, portfolio diversification opportunities) are still underdeveloped, heavily regulated or subject to legal uncertainty in China. However, progress is being made incrementally.
NAFMII Master AgreementOn 16 March 2009, NAFMII published the 2009 version of the China interbank market Financial Derivatives Transactions Master Agreement documentation (the Master Agreement). PBOC Announcement No. 4 of 2009 which formally adopted the Master Agreement prescribes that financial derivative transactions between interbank market participants must be governed by the Master Agreement.
The term ‘interbank market participants’ is not defined under the PBOC announcement and could potentially catch a wide variety of non-financial institutions as well as financial institutions. In practice, the rule is to look at the PBOC regulations regarding different types of financial derivative products to determine the meaning of ‘interbank market participant’.
For yuan derivative products such as interest rate swap transactions, PBOC Notice No. 18 of 2008 recognises the status of non-financial institutions as market participants, and requires all such transactions must be signed under the Master Agreement.
For foreign exchange (FX) derivative products such as yuan and foreign currency swap transactions, PBOC Notice No. 287 of 2007 only allows domestic financial institutions with FX forward market qualifications to participate. Therefore, those foreign financial institutions that have qualified foreign bank branches or locally incorporated banking corporations in China are eligible to enter into such transactions on the interbank FX market, but are required to sign the Master Agreement. Other types of foreign institutions have to entrust a qualified FX forward market member to trade on their behalf, and such transactions are therefore indirectly subject to the Master Agreement. Alternatively, they can execute FX derivative transactions offshore on a cash-settled basis under the International Swaps and Derivatives Association (ISDA) Master Agreement.
NAFMII introduced credit default swap products in October 2010 as ‘credit risk mitigation instruments’. A protection buyer, which may be a non-financial institution, can enter into such transaction, but only with qualified dealers and under the Master Agreement.
When the Master Agreement is applicable, it should be borne in mind that certain provisions in the Master Agreement are mandatory and cannot be amended by the parties. These provisions include the use of yuan as termination currency if the transaction currency includes yuan, conducting litigation or arbitration in China, and the requirement of PRC law as the governing law. It should also be noted that, since the Master Agreement is a creature of NAFMII, which is a self-regulatory organisation, it cannot be expected to override or resolve any restrictions or ambiguities within
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higher-level national laws and regulations, such as the PRC Bankruptcy Law. As a result, the enforceability of certain provisions within the Master Agreement remains unclear.
ISDA Master AgreementMany PRC counterparties use the ISDA Master Agreement to document their derivative transactions. In general, a properly executed ISDA Master Agreement is a legally binding and valid obligation against a Chinese counterparty, and its provisions are enforceable against the counterparty as long as the close-out netting provisions are enforceable in the bankruptcy courts.
At present, the ISDA has not commissioned any opinion on the enforceability of the termination and close-out netting provisions of the ISDA Master Agreement under PRC law. Moreover, it is not entirely clear whether the close-out netting provisions are valid and enforceable on the insolvency of a PRC counterparty and to what extent an administrator can cherry-pick executory contracts.
Article 40 of the Bankruptcy Law and general market practices show that a creditor can seek set-off during the period from the day when the bankruptcy application has been accepted by the People’s Court to the day when the asset distribution plan is finalised. Furthermore, a creditor must declare its claims as creditor to the bankruptcy administrator before it can exercise the set-off rights and then request the bankruptcy administrator to set off what it owes to the insolvent debtor. In addition, the bankruptcy administrator and the creditor’s meeting should review and confirm the creditor’s claimed set-off.
The market participants generally do not rely on set-off rights following commencement of an insolvency proceeding because of the uncertainties described above. In practice, the market participants would rather try to structure their transactions to allow these transactions to terminate and set off before a PRC counterparty’s insolvency proceeding commences.
Some market participants have opted to have automatic early termination apply to their ISDA Master Agreements with PRC counterparties. This action ensures that all transactions with the PRC counterparty terminate upon the commencement of an insolvency petition (where the foreign counterparties are not able to terminate the transactions before the commencement of proceedings). Assuming the efficacy of this termination, the only amount that the parties will owe each other is the net amount which would be produced by the close-out netting.
Regulations on the bankruptcy of financial institutionsArticle 134 of the Bankruptcy Law authorises the state council to formulate implementing regulations relating to the bankruptcy of financial institutions. The draft regulations have been put forward for the rulemaking process within the state council and are expected to be enacted next year together with or after the issuance of the forthcoming regulations on deposit Insurance. While people have high hopes for these regulations for many other reasons, derivatives practitioners expect the state council to take this opportunity to solve the enforceability issue of the close-out netting provisions under both NAFMII and ISDA Master Agreements. The ISDA, as well as Chinese commercial banks mobilised by the ISDA, have provided the CBRC with input.
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Exchange-traded financial productsThe Baosteel warrants (the first warrants issued in China) were introduced in August 2005 as a way of compensating the dilution of minority shareholders resulting from share reform that converted non-tradable shares of majority shareholders into tradable shares. To add more products into the market, the CSRC allowed the conversion rights of convertible bonds to be separately traded as warrants in 2006. There have been 95 warrants traded on the Shanghai and Shenzhen exchanges: 68 warrants with call options and 27 warrants with put options. Due to the highly speculative nature of the market and the completion of the share reform, the CSRC stopped approving the issuance of warrants from August 2009.
On 1 December 2013, there were 82 listed open-ended funds and 73 exchange traded funds (ETFs) in China. On 26 March 2012, the CSRC approved two Shanghai-Shenzhen 300 ETFs, which are the first cross-market ETFs in China. One of them was sponsored by the Jianshi fund manager and is traded on the Shenzhen Stock Exchange. The other was sponsored by the HuataiBorui fund manager and is traded on the Shanghai Stock Exchange. The Shanghai-Shenzhen Index is the most important benchmark index in the A share market, and is the underlier of the financial futures product in China. Together with stock lending, margin trading and financial futures, cross-market ETFs will provide investors with more diversified arbitrage strategies and investment opportunities.
On 30 June 2012, the CSRC also approved the first two cross-border ETFs in China: the Hang Seng ETF sponsored by the Huaxia fund manager (traded on the Shenzhen Stock Exchange) and the H-share ETF sponsored by the Yifangda fund manager (traded on the Shanghai Stock Exchange). In February 2013, the CSRC approved the first bond ETF in China: Guotai ShangZheng ETF on five-year treasury bonds. This new product will provide investors with arbitrage opportunities between the interbank bond market and the exchange markets.
The China Financial Futures Exchange (CFFE) was established on 8 September 2006, but trading of the Shanghai-Shenzhen 300 Index futures contract did not start until April 2010. On 6 September 2013, the CFFE launched three five-year future contracts on Chinese government treasury bonds.
SecuritisationChina began building its securitisation market in 2005 when the State Council approved the securities markets’ first two pilot projects; the China Development Bank’s (CCB) collateralised loan obligations (CLOs) and China Construction Bank’s residential mortgage-backed securities (RMBS). These and all other pilot projects were suspended in 2009 when the sub-prime debt crisis hit the US. ABS pilot projects resumed in 2012, and were expanded a year later by the State Council to further the financing, transformation and upgrade of China’s industrial structure. In May 2015 the State Council again increased the ABS quota for credit assets, this time to 500 billion yuan, which is the total of all previous years combined.
Overall sales of securitised products in China have surpassed 450 billion yuan, which represents only 1 per cent of its total bond market. By comparison, securitised products account for more than 30 per cent of the US bond market. Compared with the
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complexity of the US market, China’s domestic ABS sector is still at its initial stage and has huge growth potential.
DeregulationThere are two main methods of securitisation in China. First, there is credit asset securitisation, which uses special purpose trusts to issue ABS notes on the interbank bond market. These deals are regulated by the PBOC and the CBRC. Second, there is corporate asset securitisation, which uses special customer asset management plans (SCAMPs) of qualified securities companies and securities fund subsidiaries to issue ABS products on the block trade sections of the Shanghai Stock Exchange and Shenzhen Stock Exchange. SCAMPs are regulated by the CSRC.
In November 2014, ABS regulators reduced administrative approval requirements for the issuance of ABS notes, in response to the central government’s call for deregulation. Until then, each credit asset securitisation pilot project had needed qualification approval from the CBRC and issuance approval from the PBOC. Since November, qualified financial institutions only need to file new projects with the CBRC and register ABS note offerings with the PBOC. For corporate asset securitisation, CSRC approval is no longer required. New issuances only need to comply with the negative list of the China Fund Industry Association and pass the stock exchange’s no-action letter vetting procedures. After the issuance, a post-offering filing must be submitted to the China Fund Industry Association. These regulatory reforms signal the successful transition from pilot-based ABS to market-based ABS.
However, with securitisation becoming a regular component of financial institutions’ business, the speed of issuing credit ABS notes has dropped significantly from last year. At the end of April, total issuance was 51.8 billion yuan, compared with 290 billion yuan for 2014. It appears that the deregulation of ABS has received a lukewarm reception from the market. Many investors are still wary of securitised products’ true investment value and are deterred by the poor disclosure of underlying assets. Although these products carry slightly higher yields, they have much lower liquidity than general recourse credit products, such as short-term and medium-term notes. While these demand-side issues are having a genuine impact on the success of securitised notes, there are even more pressing supply-side issues.
Credit assetsAs China’s economy slows and non-performing loans (NPLs) increase, banks are lending less. Therefore, they have more capital available without having to resort to securitisation to free up lending capacity. Banks are still interested in securitising NPLs, but the process has been discouraged by regulators. Their reluctance to allow banks to use this risk mitigation technique has, in the banks’ eyes, diminished the overall usefulness of securitisation. With the end of the pilot period (which directed banks to securitise performing assets) there is no policy incentive – and certainly no market-based incentive – for them to continue securitising performing assets.
In the credit asset securitisation market, the dominant assets are bank loans to large enterprises and public projects. CLOs account for nearly 90 per cent of that market, with RMBS playing only a small role, even though it is considered a better
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asset class. In contrast, RMBS accounts for over 70 per cent of the United States’ ABS market. In China, the role of RMBS could be increased. There are over 11 trillion yuan in outstanding real-estate mortgage loans, yet there have been only three RMBS offerings: CCB’s 3 billion yuan deal in 2005 and 4.1 billion yuan deal in 2007, and a 6.8 billion yuan issuance by the Postal Savings Bank of China (PSBC) in 2014.
The lack of RMBS issuance is mainly due to difficulties in transferring mortgage rights in China. Under PRC law, any transfer of a mortgage requires its re-registration under the name of the new mortgage-holder. For individual mortgages, this poses no problem. But in the bulk transfer of mortgages, including via RMBS, there is no feasible way to re-register each of the individual assets into the name of the new mortgage-holder. Taking PSBC’s offering as an example, the bank – as originator – remains registered as the mortgage-holder and retains the mortgage rights securitised under the RMBS. This could seriously harm the RMBS investor’s ability to protect the investment if it is unable to enforce the underlying mortgages because it has not been registered as the mortgage-holder.
Corporate assetsCompared with credit asset securitisation, corporate asset securitisations feature smaller issuance size, more diverse asset types, and higher asset concentrations. Underlying assets mainly include future flows (which account for 70 per cent), contract rights, and real estate. The originators are mainly public infrastructure and utilities companies.
Before the deregulation efforts, most ABS notes were based on build and transfer contracts or other types of rights to payment from local governments. Starting last year, underlying assets have become more diversified to reflect national policies on deleveraging inventory and supporting small and medium-sized businesses. Since simple filing requirements were introduced as part of the market’s deregulation, the Shanghai and Shenzhen Stock Exchanges have issued dozens of no-action letters for the securitisation of small loans and financial leases.
Most originators of corporate asset securitisation already have access to relatively cheap bank loans and straight bonds. Securitisation merely provides them with another channel to further leverage their cash flows, and many have used it as a conduit for risky investments and excessive production capacities. Without sound legal methods to isolate these assets, these deals will dramatically increase the originator’s insolvency risk.
True saleUsing an asset trust is a viable option for securitisation. In an asset trust relationship adapted to a credit asset securitisation, the entrusted assets will be separated from the assets of the originator and trustee. If, for example, the originator of a trust dissolves in bankruptcy, the trust will continue to exist and the trust property will not be deemed part of the originator’s property. Under the Trust Law, if the originator is not the only beneficiary or investor, the trust will continue to exist and its property will not be deemed part of the bankruptcy estate. As such, it is much easier to achieve a true sale under an asset trust structure.
As only trust companies are permitted to use the asset trust structure, securities companies and fund managers are forced to use a capital trust for their SCAMPs. The
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entrusted assets (being investors’ funds) can be separated from the investors’ assets, but the relationship between originator and trustee means that, in substance, this requires a sale and purchase of the underlying assets. However, there are uncertainties under the Contract Law and Enterprise Bankruptcy Law as to the conditions under which a true sale has occurred. ‘True sale’ is not a term commonly used among PRC legal practitioners. Nor are there any legal definitions or interpretations of true sale under PRC law. Accordingly, a PRC court will only review whether a sale can be completed according to the laws and regulations that are in effect.
The Supreme People’s Court has recharacterised sham transactions as a loan between non-financial institutions. This usually requires evidence of fixed payments to a lender who bears absolutely no risks in the assets. As part of the so-called transfer of risk test, Article 133 of the Contract Law also places great weight on the delivery of the subject of a sale agreement. This is generally regarded as the point in time that risk is transferred.
Integration of regulatory structuresSome practitioners argue that the People’s Congress should pass a new uniform national law on securitisation. But there is no reason why a new law is necessary if the segmented regulatory approaches can be brought together under the Securities Law. Today, credit asset securitisation transactions are neither regulated as a type of securities offering under China’s Securities Law, nor subject to its related disclosure and anti-fraud rules.
Under Article 4 of the PBOC Law, the central bank is responsible for regulating the interbank bond market. In turn, the PBOC delegated its authority to regulate issuances of fixed-income products by non-financial institutions to NAFMII. To avoid restrictions under the Securities Law and potential regulatory conflicts with the CSRC, none of the PBOC’s or NAFMII’s rules were issued in accordance with the Securities Law. Instead, the PBOC and NAFMII claim that the PBOC Law provides the legal grounds for NAFMII’s regulations, even though the PBOC Law contains no principles or rules to justify securities regulation.
In fact, the Securities Law has reserved enough space for two separately regulated securities markets. When it comes to the approval of debt securities offerings, it expressly provides that such power rests with the CSRC or ‘other ministries authorised by the State Council’. Indeed, debt security offerings on the interbank bond market are already being effectively regulated by other ministries and therefore can be exempt from CSRC registration. Of course, this registration exemption does not exempt the transaction from the Securities Law’s disclosure and anti-fraud rules.
Throughout the past two decades, China has established a relatively sound disclosure and anti-fraud framework. Thanks to the joint efforts of legislators, courts and the CSRC, rules and regulations have developed on disclosure, liability standards and various types of securities law violations including insider trading, market manipulation and fraudulent financial statements. The PBOC and NAFMII rules are almost silent on these topics and contain only simple administrative rules concerning how potential issuers must prepare and submit their offering applications. By bringing all debt security offerings (including securitised notes) under the Securities Law, the PBOC and NAFMII would be able to piggyback off the regulatory experiences already gained in securities
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markets. They would also be able to strengthen their regulatory authority by relying on a national law instead of their own administrative rules.
iii Cases and dispute settlement
The vast majority of disputes and complaints are handled in the administrative system, and the courts therefore only handle a small number of cases each year, on matters usually relating to insider trading and disclosure fraud. In 2002, the Supreme People’s Court issued a notice ordering lower courts not to accept civil actions on disclosure liabilities unless the CSRC had first imposed an effective administrative sanction on the defendant. The notice indicates that while Chinese courts are making conscious efforts to limit civil actions on disclosure liabilities, they may also refer to the CSRC Opinions on PRC securities laws. On 29 March 2012, the Supreme People’s Court and the People’s Procuratorate jointly issued judicial interpretations on the criminal liabilities of insider trading.
According to Article 180 of the Securities Law, the CSRC is empowered under certain circumstances to sequestrate the documents of the company or person being investigated, and freeze and seize its, or his or her, accounts. Under Chapter XI of the Securities Law, the CSRC is also empowered to impose money penalties to be paid by the company or person who committed violations of the Securities Law. Unlike its counterpart in the US, however, the CSRC does not have to bring an action in court to seek such actions and penalties.
The vast majority of disputes and complaints are handled in the administrative system. The courts therefore handle only a small number of cases each year, and on matters usually relating to insider trading and disclosure fraud. The PRC securities market’s rapid growth over the past two decades has seen a corresponding increase in the number of CSRC administrative prosecutions, from a few cases in the early years to over 110 cases in 2013.
While some have branded the CSRC a toothless tiger, it actually has special powers to take actions that some of its foreign counterparts have to fight for in court. Article 180 of the Securities Law empowers the CSRC, under certain circumstances, to sequestrate the documents of the company or person being investigated, and freeze and seize its accounts. Chapter XI of the Securities Law empowers the CSRC to impose monetary penalties to be paid by the company or person who violate the law.
However, the CSRC’s Xiao has admitted that the regulator’s inefficient and inexperienced internal process – as well as various interest groups – have impeded its efforts to administer penalties. Of the 110 prosecuted cases in recent years, fewer than 60 have reached the end of their administrative process and more than half of the 30 transferred criminal cases ended with no result.
In addition, the CSRC seems to give high priority to only notorious cases that have aroused great attention or have had deep impact on society at large. In this sense, the CSRC’s prioritisation of resources is guided by practical and moral considerations. This distinguishes it from the technical and narrow approach taken by, for example, the SEC and US self-regulatory organisations in enforcing insider trading, Sarbanes-Oxley, corporate governance and broker-dealer rules.
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iv Role of exchanges, central counterparties and rating agencies
In terms of trading and clearing of derivatives products, the CFFE is more in line with the international standards than the Chinese commodity futures exchanges. While the commodity futures exchanges of Shanghai, Dalian and Zhengzhou all retain certain functions of a clearing house within them, they are less insured against default than a central counterparty (CCP) which can collect collateral and default funds centrally. Unlike its counterparts, the CFFE adopts clearing membership and default fund systems.
The layers of financial safeguards that the CFFE has in place to apply to losses arising from a default of a clearing member include the following:a net proceeds from the positions of and the margin posted by the defaulted clearing
member;b the default fund contribution of the defaulted clearing member;c the default fund contribution of the non-defaulting clearing members;d the risk reserve of the CFFE; ande the net capital of the CFFE.
However, due to the automated pairing of trades system, the CFFE, as well as the commodity futures exchanges, do not participate in trades as counterparty and, as a result, they mainly provide a trading platform for their members. This has undermined the advantages that a CCP could have offered, such as increased market liquidity and regulatory capital savings.
A further constraint on the development of a successful CCP is the creditworthiness of its clearing members. In China, most futures companies are brokers and are thinly capitalised. Instead of improving requirements for the futures exchanges and companies, setting up an independent clearinghouse can be a realistic choice. In addition, clearing membership should not be restricted to the futures brokers only but should be extended to securities companies, banks and insurance companies.
In November 2009, the PBOC set up the Shanghai Clearing House (SCH) in the interbank bond market to implement China’s G20 commitments. SCH now is a member of the CCP12 and qualifies as a ‘qualified central counterpart’ for the purpose of the regulatory capital requirements under Basel III.
In December 2011, the SCH started to provide central clearing services to all spot transactions in bonds. In December 2012, the SCH kicked off its clearing services to commodity derivatives by introducing yuan denominated forward freight agreement business. The SCH is planning to develop clearing services for new products such as interest rate swaps, cross-border foreign currencies trades and exchange rate derivatives.
The SCH has adopted similar member default safeguards as the CFFE. It is expected that the SCH will further improve its infrastructure by providing robust margining procedures and other risk management controls that will render itself the most creditworthy CCP in the OTC derivatives market.
v Relevant tax and insolvency law
Tax lawIn light of the extensive involvement of multiple regulatory agencies in the operation of trust companies and the use of trusts in various Chinese financial markets, the silence
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of China’s tax authorities, the Ministry of Finance (MOF) and the State Administration of Taxation (SAT), regarding trust taxation is rather remarkable. So far, these agencies have issued minimal guidance on the taxation of trusts. The most detailed such guidance, contained in the ‘2006 Credit Assets Securitisation Tax Circular’, concerns specifically credit assets securitisation (CAS) trusts.2 Over the years (and as recently as in 2008), the MOF and SAT have also issued numerous policy circulars regarding the taxation of securities investment funds (SIFs)3 that, sponsored by CSRC-licensed SIF managers, also adopt the trust form.
According to the 2006 CAS Tax Circular, with respect to a CAS trust, trust income that is distributed in the same year as it is received is not taxed to the trust. The holders of trust certificates – which under the Administrative Measures for CAS can only be institutional investors – must recognise such distributed income on an accrual basis. In the SIF context, tax authorities have allowed, as a matter of preferential policy, that:a the funds themselves are not subject to the EIT on investment income received
(regardless of whether the income received is distributed);4 and b any enterprise that invests in a SIF is exempt from the EIT on distributions from
a SIF.
By contrast, individual investors in SIFs are subject to personal income tax, either when the income is paid by the issuers of securities to the SIF (e.g., in the case of interest and dividends) or when income is distributed to the investor (e.g., in the case of taxable capital gain). Unlike the 2006 CAS Tax Circular, none of these rules conditions any tax treatment on the extent to which a SIF distributes its income during a given period.
Insolvency lawInsolvency law remains a work in progress in the areas of corporate reorganisation and insolvency netting. The case law in these areas has not developed to a point where predictions can be made as to insolvency incomes in the following circumstances:a where bank creditors seek to impose a plan of reorganisation in light of the
competing interests of other stakeholders such as bondholders, trade creditors, employees and local governments; or
b should an OTC derivatives market-maker be allowed to fail.
2 Caishui [2006] 5 (MOF and SAT, 20 February 2006), Notice Regarding Tax Policy Issues Concerning Securitisation of Credit Assets.
3 See, for example, Caishui [1998] 55 (MOF and SAT, 6 August 1998), Notice Regarding Tax Issues of Securities Investment Funds; Caishui [2002] 128 (MOF and SAT, 22 August 2002), Notice Regarding Tax Issues of Open-Ended Securities Investment Funds; Caishui [2008] 1 (MOF and SAT, 22 February 2008), Notice Regarding Certain Preferential Policies under the EIT.
4 As in the CAS trust context, it is not clear under Chinese law that SIFs are even organisations that can be subject to the EIT.
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Much of these uncertainties remain to be addressed, either in further legislation, adjudication or (as is most likely) the ad hoc market practice and government decisions.
III OUTLOOK AND CONCLUSIONS
The chairman of the CSRC, Mr Xiao Gang, has generally followed the ‘New Deal’ policies that were promoted by his predecessor, Mr Guo Shuqing. The CSRC has issued new opinions, orders, directives or policies more frequently since the New Deal.
The New Deal policies address areas requiring deep reform, including: a margin trading and securities lending;b the new OTC market; c reform of the IPO review and distribution process;d delisting;e development of a strong institutional investor community;f harmonisation and integration of the fragmented bond market; and g delegation of more power to the exchanges.
Many of these were bruited prior to Mr Guo’s tenure, but are now being packaged as a coherent and urgent whole that marks a philosophy of relative liberalisation.
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Chapter 5
COLOMBIA
Camilo Martínez Beltrán and Veronica Umaña1
I INTRODUCTION
i Legal structure
Pursuant to the Colombian Constitution, Congress has the power to prescribe the general legal framework within which the government and other authorities regulate the Colombian capital markets. The Constitution also permits Congress to authorise government intervention in the economy by statute. The agencies vested with the authority to regulate the financial system are the board of directors of the Colombian Central Bank, the Ministry of Finance, the Superintendency of Finance, the Superintendency of Industry and Commerce, and the Securities Market Self-Regulatory Organisation (SRO).
Consistent with the Colombian civil law system, laws, decrees and judicial decisions are organised as a subordinated set of rules. As such, at the top of the legal system in terms of hierarchy and applicability are the laws enacted by Congress. Directly below are decrees issued by the national government, which often regulate specific fields within the range of provision of the law that authorises its issuance. Not as important as in a common law system, the decisions of judges are subordinated to the laws and decrees on the grounds of which their positions are defined regarding specific issues.
This basic and general description of the Colombian legal system explains the features of the regulation of capital markets on the basis of the active role of the government along with the numerous interactions arising among the participants, and also taking into account the importance that has been constitutionally ascribed to the stability of the Colombian financial system. Colombia’s capital market is mainly governed by Law 964, issued by Congress in 2005, which provides the framework for
1 Camilo Martínez Beltrán is a partner and Veronica Umaña is an associate at DLA Piper Martínez Neira.
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the government’s intervention. Following the legal general principles of Law 964, the government issued Decree 2555 in 2010, which consolidates the various regulations that were issued prior to 2010 to regulate the capital markets, but – more importantly – automatically embracing any decrees issued afterwards, in an effective attempt by the government to modernise regulation and match it to international standards.
Law 964 provides the fundamental relevant concepts, but Decree 2555 became the most important source of rules for the participants of the financial, securities and insurance activities described therein; in fact, each supervised financial entity (banks, insurance companies, credit rating agencies, etc.) will find the corresponding rules that govern its activities within Decree 2555. Likewise, every procedure before the Superintendency of Finance regarding authorisations or supervised matters of financial entities will have to take place under Decree 2555.
Colombian securities markets are subject to the supervision and regulation of the Superintendency of Finance, which was created in 2005 following the merger of the Superintendency of Banking and the Superintendency of Securities. The Superintendency of Finance is an independent regulatory entity ascribed to the Ministry of Finance. It has the authority to inspect, supervise and control the financial, insurance and securities exchange sectors and any other activities related to the investment or management of public savings. Accordingly, issuers of securities, and their subsidiaries are subject to control, supervision and regulation of the Superintendency of Finance as financial institutions as well as issuers of securities.
The Colombian Stock Exchange is the sole trading market for common and preferred shares. There are no official market makers or independent specialists on the Colombian Stock Exchange to ensure market liquidity and, therefore, orders to buy or sell in excess of corresponding orders to sell or buy will not be executed. The aggregate equity market capitalisation of the 75 companies listed on the Colombian Stock Exchange as of 22 April 2015 was 338.6 trillion pesos (US$137.2 billion at the representative market exchange rate of 22 April 2015).
Self-regulation in the capital markets was formally introduced in Colombia by Law 964 of 2005, and the SRO was created in June 2006. The SRO is a private entity that has the power to supervise, sanction and regulate the entities subject to self-regulation (i.e., including securities intermediaries and any entities that voluntarily submit themselves to self-regulation). The SRO’s supervisory powers entitle it to review compliance with applicable laws and regulations and to impose sanctions in the event of violations. The SRO may also propose regulation aimed at various matters, including conflicts of interest and improving the integrity and quality of the capital markets.
ii Specific issues
Minimum requirements of capitalDecree 2555 is a technical compendium of rules regarding the Colombian financial system, which aims to set out a comprehensive set of measures protecting the market’s transparency and customers’ security. The first issue that has broadly concerned the government is the minimum solvency indicators required by financial entities in order to legally undertake activities in Colombia. The capital structures of different financial entities must comply with minimum requirements, which are calculated under precise
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rules specifically described in the aforementioned decree. These rules are very strict when a new local or foreign financial entity plans to undertake a supervised activity in Colombia, but previously established financial entities must also periodically demonstrate their compliance with such capital minimums.
Control over investmentsAnother issue that has been extensively regulated is the investment limits of financial entities, particularly regarding the shares of other corporations. As a result of such regulation, affiliates of a financial entity may only be those expressly permitted under the corresponding rules according to the nature of each financial entity, and the transactions by the financial entity may not stray outside the principal purpose of the financial entity, in order to avoid the risk of the entity entering non-core business area.
In recent years the Superintendency of Finance has assumed the duty to protect the market from illegal financial activities that are mainly carried out by unauthorised parties or companies. Any authorisation given by the Superintendency of Finance to a financial entity is usually limited to the activities requested, fulfilling specific requirements, but may exclude other activities that might be considered illegal if they are undertaken, and may include authorisations for different financial activities.
Material informationSecurities issuers must comply with the regulations regarding public information disclosure, which has been integrated into the Decree 2555 rules. According to the group of articles regarding public information disclosure, events that should have been taken into account by a prudent and diligent expert when buying, selling or keeping a security must be disclosed to the market. In addition, under Decree 2555, the aforesaid general rule is supplemented by specific situations that warrant disclosing information without completing a subjective analysis regarding the materiality of the event. The Superintendency of Finance has arranged an online system, SIMEV, through which such information must be disclosed to the market.
Investment fundsUnder Decree 2555 investment funds have been subject to more extended regulation, an important reason for these instruments to have garnered more attention from local and foreign investors. Investment fund administration is a task that only brokers, investment administration corporations and trusts companies can perform. Moreover, in Colombia the securities of investment funds are not negotiated on the same platform used to negotiate stocks as a specific negotiation platform has been developed for listed investment fund securities. There is also regulation for specific types of investment fund, such as currency market, real estate, speculation and margin.
Public tender offer rulesPursuant to Colombian law, the acquisition of the following should be made pursuant to the public tender offer rules:a the beneficial ownership of 25 per cent or more of the outstanding shares with
voting rights of a listed company; or
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b the purchase of 5 per cent or more of the outstanding shares with voting rights by a shareholder or group shareholders beneficially owning 25 per cent or more of such outstanding shares of a listed company.
Moreover, any beneficial owner included under (b) may only make such acquisition by making a tender offer directed at all the holders of such company’s shares, following the procedures established by the Colombian government. These requirements do not need to be met under certain circumstances described in Decree 2555 of 2010.
II THE YEAR IN REVIEW
During this year, Colombian capital markets have witnessed 21 debt public offerings for US$1.3 billion. In the context of sustained economic growth and the recent collapse in 2012 of the largest broker-dealer of the market, the government has faced multiple challenges. As a consequence, for the past few years there have been many developments affecting debt and equity offerings, as described below.
i Developments affecting debt and equity offerings
The past year has been rough for the international market. Amid the international market conditions, Colombia has been able to sustain economic growth, representing multiple challenges for the government and its agencies. Regardless of the surprising economic conditions, Colombian capital markets have been impacted and have not been as active as previously.
This year so far, Colombian capital markets have witnessed only 21 public offerings equivalent to US$1.3 billion. At the same date a year ago the Colombian market had already seen 43 debt public offerings and two equity public offerings for US$3.1 billion and US$2.6 billion, respectively.
In the year in review (September 2014 to October 2015) there have not been many developments affecting debt and equity offerings, as will be seen below.
The fund management company investment regimeIn 2012,2 the Congress adopted the use of public-private partnerships (PPP), mainly in public infrastructure contracts. Since then, the government has put its best efforts into promoting this framework.
In this vein, Decree 816 of 2014 modifies the investment regime for fund management companies. According to Articles 2, 3 and 4, funds with ‘moderate’, ‘major’ and ‘long-term’ risk profiles are able to invest 5 per cent of their assets in private equity funds in the event that these funds allocate 66 per cent of their resources to PPP infrastructure projects.
The same permission, mutatis mutandis, is given to private equity funds managed by stockbrokers registered in the public market, and to trust and life insurance companies.3
2 Law 1508 of 2012.3 Articles 5 and 6.
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Now, the Colombian government has elaborated and established a plan to develop infrastructure known as ‘4G’ (fourth generation roads). To date, there have already been 19 projects, which according to the ANI (the national agency for infrastructure) will invest 30.7 billion Colombian pesos.
Inscription of securities in the secondary marketInspired by Rule 144A in the United States, some years ago the government adopted a secondary market as a way of facilitating and encouraging distribution to ‘authorised’ investors of securities inscribed in a certain way in the National Registry of Securities and Issuers (RNVE).
Nevertheless, there has been a poor response in the market to this institution. Accordingly, Decree 1019 of 2014 introduced the following changes to the registration and operation of the secondary market: (1) securities do not have to be graded by a ratings agency to register in the RNVE; (2) securities registration in the RNVE is automatic provided the issuers submit some basic information to the Financial Superintendency; and (3) with certain minor restrictions, the promotion of issuances directly or through professional brokers is allowed. Finally, disclosure duties, after issuance, are limited to the requests of the holders.
Regulation on leveraged operations in collective portfolio managementAccording to Decree 2555 of 2010, joint portfolios can only be managed by stockbroker companies, trust companies and investment management companies. Before Decree 1068 of 2014, these collective funds were able to carry out leveraged operations up to the value of 100 per cent of their assets.
The new rule allows collective portfolio managers to make leveraged operations above this amount provided that they are accepted by a central counterparty (CCP) clearing house, and are encompassed by the by-laws of the clearing house.
Also, Decree 1068 sets a revised term (until 14 December 2014) for managers of the joint funds to accomplish the requirements established in Decree 1242 of 2013.4
Price stabilisation for IPOs The government issued Decree 2510 on 4 December 2014, updating Decree 2555 of 2010 by introducing some modifications and new chapters. With these amendments it intends to establish a price-stabilisation mechanism for the IPOs of bonds and shares. As defined, the main purpose is that of preventing or slowing any price fall in the market value of the security issued.
Only a previously contracted brokerage firm is allowed to act as a ‘price-stabiliser’. There are two mechanisms under which brokers can operate as stabilisers in the Colombian markets: through the temporal transfer of the securities or by adjudication the securities with the possibility of reacquiring them.
4 Relating to the entities authorised to manage the joint funds (i.e., only stockbroker companies, trust companies, trust companies and investment companies) and their denomination as ‘mutual investment management companies’.
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This same legal disposition provides a definition of ‘short sale’ and prescribes that the principles of the International Organization of Securities Commission determined for this kind of operation shall be observed. Even though this legal provision is vague on the terms and conditions applicable for the execution of a short sale operation, as it delegates this responsibility to the Superintendence of Finance, it does propose that the Colombian stock market regulation determine which securities can be considered as short sale operations and that those operations will always have to be indicated as such.
ii Developments affecting derivatives, securitisations and other structured products
The derivatives market was officially established in 2008. Since then, it has experienced accelerated growth, and nowadays the trading volume is, on average, US$200 million per day. This dynamic growth has also been observed in securitisations and other structured products. The recent collapse of a large stockbroker in the market involved several ‘repo’ operations.5
External Circular DODM-144On 27 March 2014, the Central Bank released External Circular DODM-144 regarding derivatives operations. The changes introduced basically consist of: (1) modification of the requirements for external agents authorised to carry out derivatives operations with Colombian residents; (2) a new format for reporting derivatives operations related to basic products and made between residents and external agents; and (3) the variation of the term to report the derivatives operations to the Central Bank.
Under this regulation, such agents are those that have previously completed agreements with currency exchange market intermediaries, and those that have completed transactions on derivatives in the past year with net values over US$1 billion.
Simultaneous or temporary transfer of securities operationsDecree 2878 of 2013, which came into force on 11 May 2013, introduced two major changes to the regulation of the temporary purchase of assets or ‘repos’.
The first consists of the creation of a guarantee scheme to the benefit of the stock market, the trading system or the clearing houses, depending on the mechanism used for the transaction. The guarantees admissible to back up these transactions are treasury securities, certain stocks quoted on the public market, cash or fixed-income securities.
The second is the limitation on the number of shares on which repo transactions can be made. In fact, according to Article 7 of the Decree, the maximum percentage of shares allowed to be the object of repo operations is 25 per cent of the total available in the market.
iii Cases and dispute settlement
There are no recent disputes relating to cross-border financial market activity. Nevertheless, this situation is likely to change as a result of the recent establishment of
5 Operations for the simultaneous or temporary transfer of securities.
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the Latin American Integrated Market (MILA). In view of the foregoing, there are four issues that should be taken into account.
Limits on share purchasesIn Article 88 of the Organic Statue of the Financial System, the Financial Superintendency consolidated its position on the quantitative and substantial limits to the purchase of shares in the public market. According to this article, any transaction, by foreign or national investors, purchasing 10 per cent or more of the shares issued by a financial institution under the surveillance of the Superintendency, must have the prior approval of the Superintendent of Finance.6
Requirements for advertising financial products or servicesThe Concept of 28 March 2014 issued by the Financial Superintendency contains the official interpretation of the rules governing the promotion and issuance of financial products and services by foreign nationals in Colombia. In this vein, it sets out that all financial institutions or stock markets located outside the country must establish a representative office or undertake a correspondent agreement with a national broker-dealer in order to promote or advertise financial products and services within Colombia.7 This general rule does not, however, apply in the event that the interest in establishing a commercial relationship with a foreign institution comes from a Colombian resident, and this relationship is not a consequence of promotional activity in Colombia or targeted at its residents.
Offerings outside Colombian territorySpecifically, Article 6.12.1.1.1 of Decree 2555 of 2010 establishes that securities offerings made abroad will be submitted to foreign law. In recent years, many Colombian companies have successfully entered foreign markets seeking fresh resources for their activities.
Protection for security holders in the insolvency processesNotwithstanding the foregoing, Colombian law gives special protection to Colombian investors in the national market or abroad, as was proven in the insolvency process of a national company that issued bonds in Luxembourg.8 Article 50 of Law 1116 of 2006 excludes any acts or contracts related to the issuance of securities in Colombia or abroad from the insolvency regime.
Colombia’s interest in joining the OECD and this entity’s recommendationsFollowing the recommendations made by the OECD, the Colombian government intends to reinforce some of its legal dispositions, such as the independence of the financial supervisor (the Colombian Superintendency of Finance), to grant more protection to the
6 The Concept of 5 February 2014 issued by the Financial Superintendency.7 https://www.superfinanciera.gov.co/SFCant/.../oficinasrepresentacion.doc.8 Superintendencia de Sociedades, Act No. 405-001770, 2 September 2014.
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authority or supervisor and to provide the supervisor with the appropriate tools so that he or she would be able to control conglomerates if necessary.
This innovation regimen has already started. On 15 September 2015, the government passed Decree 1817, regarding the appointment and removal of the Superintendent, who is the maximum authority of the Superintendencies.
Finally, the government also intends to enhance the protection of the consumer, reducing any asymmetry in the information, financial education, habeas data protection, and update some legal provisions, in particular those related to financial institutions and its obligations (Basel II and III; among others).
In order to develop this new regulatory framework the government is planning to contract with the BID a loan of US$500 million.9
‘Código País’The Superintendency of Finance, in an alliance with the Latin American Development Bank (CAF), has presented a new ‘Código País’ recommended to be implemented by the companies from 2016, which some of the most important Colombian issuers as Bancolombia, Porvenir, Nutresa and Colombia have already implemented.
Código País seeks to create sustainability in order to create growth in the capital market and access to more resources. This corporate guideline consists of 33 measures which group 148 recommendations related to the rights and equitable treatment of shareholders, the general meeting of shareholders, the board of directors, control architecture and transparency of financial and non-financial information.
iv Relevant tax and insolvency law
Law 1739 of 2014 established a temporary surcharge for the ‘income tax for equity’ or CREE, which taxes domestic corporations and legal entities. The surcharge rates are 5 per cent for 2015, 6 per cent in 2016, 8 per cent in 2017 and 9 per cent in 2018, resulting in a statutory income tax rate for corporations of up to 39, 40, 42 and 43 per cent in each of those years.
Law 1739 introduced an exception to tax rules regarding the ‘place of effective management’, under which a foreign entity could be deemed as a domestic entity for income tax purposes. Under this new exception, foreign entities that have issued stock or bonds on the Colombian public market (or a foreign public market recognised by the Tax Administration) would not be considered as having their place of effective management in Colombia. This rule, which also covers entities subordinated to the bonds or stock issuer, can be voluntarily waived.
Finally, a temporary net worth tax for corporations was put into force, and would have to be paid during 2015, 2016 and 2017. This tax, however, is based on the situation
9 https://www.bvc.com.co/pps/tibco/portalbvc/Home/NoticiasDetalle?com.tibco.ps.pagesvc.renderParams.sub5d9e2b27_11de9ed172b_-783b7f000001=rp.docURI%3Dpof%253A%252Fcom.tibco.psx.model.cp.Document%252F69854549_150230f1f18_485d0a0a600b%26rp.currentDocumentID%3D69854549_150230f1f18_485d0a0a600b%26action%3DopenDocument%26addDefaultTarget%3Dfalse%26.
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of the taxpayer on 1 January 2015, and would not affect new investors or net worth increases occurred after that date.
Insolvency law has not undergone substantial change since 2006, when Law 1116 was enacted, and the following should be noted. Under Law 1116, cross-border insolvency procedures are recognised in Colombia in four situations:a a foreign tribunal or a foreign representative requests the assistance of Colombia
in an insolvency procedure undertaken abroad;b assistance is requested in a foreign country regarding an insolvency procedure that
is being undertaken according to Colombian law;c insolvency procedures of the same debtor are being undertaken simultaneously in
Colombia and in a foreign country; andd creditors or any other interested parties abroad have the intention of requesting
a new insolvency procedure or participating in an ongoing insolvency procedure under Colombian law.
v Role of exchanges, central counterparties (CCPs) and rating agencies
A Latin American exchange is the most significant recent project to enhance the local capital markets. MILA is a project to unify the exchanges of Colombia, Chile and Peru in order to create a single stock market that will allow the negotiation of stocks of the most representative companies in the region. It is the result of an agreement signed among the aforesaid exchanges that is more of an alliance than a merger, and its most important feature is that none of the entering exchanges compromises its autonomy or independence in regulatory or administrative issues as a result of the agreement. Instead, investors may benefit from MILA through an intermediary by using the local platform in local currency, but reaching the companies listed on any of the exchanges involved.
As an infrastructure supplier to the securities market, CCPs are regulated under Decree 2555 and supervised by the Superintendency of Finance. CCPs are companies exclusively performing activities regarding transactions among investors, intermediaries and issuers. They are, however, authorised to supply their services to exchange transactions as well as to off-exchange transactions. Whenever a CCP undertakes an operation, the regulation automatically assigns a zero credit risk exposure value to the operation and the same occurs when security over the operation is granted by the CCP.
Credit rating agencies also have a specific regulation chapter under Decree 2555. Such regulation has been made as an attempt to protect the market from non-independent ratings that might lead to investors being misled into taking such ratings into account in their decision-making. As a result, Decree 2555 includes a complete set of rules applying to credit rating agencies in terms of the professionalism of their analysts, isolated structures of personnel from the issuers and the intermediaries, and codes of ethics and conduct that must be implemented within the credit rating agencies towards the conservation of very high standards of independence. Rating procedures must follow the internal regulations issued by each credit rating agency, but previously approved by the Superintendency of Finance. Credit rating committees must also be created within each credit rating agency the decisions are rigorously supervised by the aforementioned superintendency.
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vi Other strategic considerations
Consistent with recent experience, since the Interbolsa case,10 the Financial Superintendency has been reluctant to authorise the issuance of derivatives and other structured products.
Given this position, it is important that the issuer be a renowned participant in the market and show the authorities enough guarantees and experience in order to obtain approval for these operations.
It is also important to highlight that MILA represents an important and unprecedented opportunity to make successful issuances of securities, as has recently been demonstrated by several Peruvian companies.11
III OUTLOOK AND CONCLUSIONS
As has been said above, MILA is an unprecedented opportunity for the participants in the Colombian capital markets. There are two draft decrees that must be taken into account in connection with this.
The first draft decree establishes the list of securities that may be quoted on foreign trading systems and applicable rules. The second draft aims to modify the current exchange regime in order to promote its operation in the integrated market.
Finally, as was recently stated by the Financial Superintendency, the outlook for market regulation is a strengthening of the ‘risk-based’ supervision model. This model focuses on activities that pose major risks for each entity, and its management.
From this perspective, and inspired by the Canadian model, the authorities periodically produce a risk profile for each entity, and based on their outlook, establish a set of prompt corrective actions. There are seven risks evaluated periodically by the Financial Superintendency: debt risk, market risk, liquidity risk, operational risk, laundering risk, insurance risk and reputational risk.
Even if the main advantage of this regulatory model is that it takes into account the special characteristics of each regulated entity, and permits the development of new products in the market, the recent declaration of the Financial Superintendency, paraphrasing Thomas Paine, still remains pertinent: regulation is but a necessary evil for the market.
10 Until November 2012, Interbolsa was the largest operator in the local capital markets; in fact, prior to its liquidation, the company was involved in approximately 30 per cent (by volume) of the brokerage activities in the Colombian capital markets. Nevertheless, in the three years prior to the forced intervention of the government in its operations, the company carved out temporary transfer operations over specific stock that affected its solvency indicators in a major and unexpected way. As a result, in November 2012, Interbolsa was unable to pay a short-term loan of US$10 million.
11 Vg ICBC Peru Bank SA, Aseguradora Magallanes; Financiera Nueva Visión, Compañía de Seguros de Vida Cámara and Rigel Perú SA.
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Chapter 6
CZECH REPUBLIC
Tomáš Sedláček and Zdeněk Husták1
I INTRODUCTION
i Sources of law
Conduct on the capital market is governed by the following laws and regulations:a Act No. 21/1992 Coll., on Banks;b Act No. 6/1993 Coll., on the Czech National Bank, as amended;c Act No. 15/1998 Coll., on Supervision in the Capital Market Area, as amended;d Act No. 229/2002 Coll., on the Financial Arbitrator, as amended;e Act No. 190/2004 Coll., Act on Bonds, as amended;f Act No. 256/2004 Coll., on Capital Market Undertakings, as amended;g Act No. 182/2006 Coll., on Insolvency;h Act No. 104/2008 Coll., on Takeover Bids, as amended;i Act No. 277/2009 Coll., on Insurance;j Act No. 408/2010 Coll., on Financial Collateral;k Act No. 426/2011 Coll., on Retirement Savings;l Act No. 427/2011 Coll., on Supplementary Pension Savings,m Act No. 89/2012 Coll., the Civil Code, as amended;n Act No. 90/2012 Coll., Commercial Corporations, as amended;o Act No. 134/2013 Coll., on Transparency of Joint-Stock Companies;p Act No. 240/2013 Coll., on Investment Companies and Investment Funds (the
Act on Investment Funds); andq Act No. 304/2013 Coll., on Public Registers of Legal Entities and Individuals.
1 Tomáš Sedláček is a partner and Zdeněk Husták is of counsel at BBH, advokátní kancelář, s.r.o.
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ii Courts
The judicial structure in the Czech Republic consists of district courts, regional courts, two high courts, the Supreme Court, the Supreme Administrative Court and the Constitutional Court. Disputes arising regarding capital markets, securities and negotiable instruments tradable on the capital market, trades on the commodity market, as well as most disputes between entrepreneurs in the course of their business are tried in the first instance before the regional courts. The High Court has jurisdiction to hear appeals of regional court decisions. Access to the review of a decision of a court of appeal before the Supreme Court or the Constitutional Court may be restricted on the basis of statutory limitations.
Disputes may also be resolved by arbitration. Act No. 216/1994 Coll., on Arbitration Proceedings, as amended, sets out two types of arbitration proceeding: arbitration administered by a professional arbitration court, including the Court of Arbitration of the Prague Stock Exchange or the Arbitration Court of the Economic Chamber of the Czech Republic and Agricultural Chamber of the Czech Republic; and ad hoc arbitration, whereby arbitrators are appointed by the parties or by an appointing authority chosen by the parties.
iii Czech National Bank
The Czech National Bank (CNB) is an administrative authority supervising the financial markets in the Czech Republic. The structure, relation to other administrative bodies and competence of the CNB is stipulated in the Act on the Czech National Bank. The CNB issues decrees implementing acts governing capital markets as well as other sectors of the financial market. It may also issue guidance and official communications; these do not represent binding sources of law but are generally respected because of the supervisory authority of the CNB.
iv The Financial Arbitrator
Disputes between consumers and financial institutions may be resolved in out-of-court proceedings before the Financial Arbitrator, which is an independent authority empowered to resolve disputes arising from the provision of payment services and consumer loans and the issuance of electronic money, disputes between investment funds or investment management companies and fund administrators, and disputes concerning consumers investing in collective investment funds in respect of the management, administration and offering of investments in collective investment funds.
Since the end of 2013, the Financial Arbitrator has also had the capacity to resolve disputes between providers of foreign exchange services and their clients, and disputes between insurance companies or insurance intermediaries and policyholders and other entitled persons under such policies.
v Professional and non-governmental organisations
On 16 March 2015 the government approved an amendment to the Consumer Protection Act, which aims to establish a system of alternative dispute resolution between business people and consumers under which it transposed Directive No. 2013/11/EU.
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In connection with the adoption of this Act the scope of the Financial Arbitrator has been expanded to other thus far uncovered financial market sectors.
The amendment to the Consumer Protection Act establishes the consumer’s right to extrajudicial resolution of consumer disputes from the contract of sale or a contract for services. Furthermore, it directly determines the authorities that are responsible for extrajudicial dispute resolution (the Czech Telecommunication Office, the Energy Regulatory Authority and the Financial Arbitrator).
The Czech Capital Market AssociationThe Czech Capital Market Association (AKAT) is a non-governmental association that aims to contribute to the transparency of the capital markets, investor protection and member business activities in the Czech Republic. Activities include the issuance of self- regulatory rules, such as the Code of Ethics, setting of standards for the professional and diligent conduct of its members, participation in legislative procedures in relation to acts regulating collective investment and informing and educating the investing public. AKAT cooperates with the European Funds and Asset Management Association and with other national associations in the fields of investment funds and asset management, both in EU Member States and other countries.
The Czech Banking AssociationThe Czech Banking Association (CBA) is a voluntary association of legal persons in the banking and closely associated fields. Its members represent 99 per cent of the banking sector in the Czech Republic. The CBA is a full member of the European Banking Federation and European Payments Council.
The Association of Financial Intermediaries and Financial Advisers and the Union of Financial Intermediaries and Financial Advisers The Association of Financial Intermediaries and Financial Advisers (AFIZ) and the Union of Financial Intermediaries and Financial Advisers (USF) are voluntary professional associations of financial intermediaries and financial advisers. The associations’ objectives are to promote best practice in the financial services areas and increase customer protection. In doing so, AFIZ and USF cooperate with administrative bodies, particularly the Ministry of Finance and the CNB. Members providing financial services are bound by the internal rules of these professional bodies, such as ethical codes, and any failure to follow these may result in disciplinary action.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
New Civil CodeThe new Civil Code provides the basic terms and principles of all private law, personal and corporate issues, family law and contractual law. From the extensive number of
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changes,2 we consider it a redesign of the contractual process that is less formalistic, given the non-mandatory nature of most of the provisions of the new Civil Code, whereby it will be possible to flexibly customise the terms and conditions of any contract among business parties – even to stipulate the rules for a given contractual process. The new law also provides for floating charges. There have been certain changes to security arrangements, for example, if an insured asset representing a security is damaged, the insurance company may pay the insurance benefit directly to the creditor. Certain restrictions on the realisation of security have been removed; in cases of security in the form of title transfer, the creditor will be allowed to keep the security as the full owner should the debtor default on its obligation.
New Act on Commercial Corporations – changes for joint-stock companiesThe new Civil Code is accompanied by a new Act on Commercial Corporations, which brings numerous enhancements to the process of the foundation and operation of commercial corporations in the Czech Republic. The changes include the fact that the foundation of a joint-stock company may now be executed in the form of a single act of the founder – the adoption of the statute – which is conditional upon there having been a successful subscription. A sole shareholder founding a joint-stock company must be a legal entity. A new type of share – the piece share – has been introduced. These shares have no nominal value and their value is expressed as a pro rata share of the capital of the company. Each piece share represents one vote. The company may additionally issue only shares with a nominal value or piece shares.
The corporate governance rules have been significantly expanded, for example, business judgement rules and a complex regime of liability of members of the bodies of a corporation are stipulated, the membership of a legal person on the boards of companies is enabled, and proxy voting and electronic voting is enabled. Regarding its organisation, a joint-stock company may opt for a unitary management board or a two-tier board of directors and supervisory board structure.
Act on Public Registers of Legal Entities and IndividualsAs of 1 January 2014, the legal regulation of public registers is encompassed in a single legal act, but in practice, separate registers are still operated. The basic register for commercial companies is the Commercial Register. There are also the Register of Foundations and Beneficial Trusts, the Register of Associations and the Register of Institutions. The Act also contains a body of unified rules for all public registers, which are kept by the register courts; however, the Act now also enables public notaries meeting certain conditions to make registrations in public registers. The Act also more strictly regulates the consequences of breaches of the obligation to supply documents to the court. Certain proceedings are conducted by the register courts as stipulated in the Act on Certain Court Proceedings.
2 For detailed infomation on the new Civil Code and associated laws, please refer to New Civil Code and Associated Changes publication available at www.bbh.cz/files/publikace/bulletin- bbh-new-civil-code-and-associated-changes-july-2013.pdf.
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Amendment to the Act on BondsThere is a very flexible regime for bond issuance in the Czech Republic. There is no need for the submission of applications for approval on the issuance terms of an individual bond issue to the CNB. The CNB does not supervise the private placement of bonds and bondholders’ meetings may now also be held by means of electronic communication. The amendment to the Act on Bonds, which came into force in August 2014, aims at the further enhancement of the regime. The amendment streamlines the requirements on the terms of a bond issuance, enables the incorporation of specific rights in bonds and provides for a different degree of the subordination of various subordinated bond issues. In respect of the diverse types of debentures (notes) that do not provide for the full and unconditional promise of the issuer to repay the notional value of such notes, the Act on Bonds may be applied when the issuance terms of such notes explicitly provide for it.
Amendment to the Act on Capital Market UndertakingsThe amendment to the Act on Capital Market Undertakings, which the government approved at the end of July 2015, should increase the awareness of issuers about the condition of the shares in the shareholder structure of the company.
For example, the amendment introduces an obligation of shareholders to notify to the issuer and the CNB, when its share in a company with registered capital of 500 million koruna and above exceeds 1 per cent. The amendment also consolidates administrative fees associated with doing business on the capital market with the Law on Administrative Fees and harmonises national laws with EU requirements.
Act on Transparency of Joint-Stock CompaniesAct No. 134/2013 Coll., on Transparency of Joint-Stock Companies, aims at enhancing the ownership transparency of joint-stock companies. The Act introduces a mandatory requirement that joint-stock companies issue shares in book-entry form, certificated registered shares, or certificated bearer shares that are permanently deposited with a bank or investment firm (‘immobilisation’). On 1 January 2014, all certificated bearer shares that had not been immobilised automatically changed to certificated registered shares, and the company articles were modified in that respect. Companies had to establish a mandatory register of shareholders. Shareholders were to submit any bearer shares that were not immobilised to the joint-stock company in order to exchange them for new certificated registered shares and provide the information necessary for their registration in the register of shareholders no later than 30 June 2014. In the event said shares are not presented to the company, the shareholder cannot make use of its shareholder rights.
ii Developments affecting derivatives, securitisations and other structured products
Investment fundsThe regulation governing investment funds encompasses the rules on the activities of investment companies, Czech and foreign investment funds and fund administrators, as well as banks providing depository services to investment funds. The Act on Investment Funds, which took effect on 19 August 2013, significantly changed the legal environment for the fund industry. The Act implemented major pieces of recently issued European
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legislation, including the UCITS IV Directive3 and AIFMD Directive,4 and reflects the EuVECA and EuSEF regulations5 as well. The UCITS V Directive, which is likely to be approved soon, is also reflected. The Act on Investment Funds has brought numerous changes to investment funds and their managers in the Czech Republic. The key aim of the Act is to establish a flexible legal environment for fund businesses to attract foreign investors. For example, it introduced new legal forms of investment funds (e.g., special forms of joint-stock SICAV companies that allow for the creation of sub-funds under one umbrella corporate body, and special forms of limited liability partnerships that may issue shares representing participation in the partnership). The Act established a new function of the fund administrator – this could ease the establishment of new investment companies managing investment funds as administration services can be readily obtained on the market. The new law also imposes duties on subjects participating in the fund business, such as promoters or prime brokers.
The value of assets under the management of investment funds offered to the public in the Czech Republic is nearly €10 billion, while the assets of funds for qualified investors exceeded €2 billion as of the end of 2014. The main trends in the fund business in the Czech Republic are increasing interest in individual asset management; growth of funds for qualified investors; and raising the interest of investors to become more involved in fund management.
The Act on Investment Funds is accompanied by a number of implementing decrees and regulations. Particularly relevant is Government Regulation No. 243/2013 Coll., on Investment Funds and Techniques on their Management, which was amended at the beginning of 2014. The regulation sets out detailed rules on eligible assets and investment limits for UCITS funds and special funds. In respect of funds for qualified investors, the Regulation sets minimum rules for diversification (a single asset cannot form more than 35 per cent of all of the assets of a fund) and certain rules for investment in real estate. In respect of eligible assets of funds, qualified investors are allowed to invest in any type of assets in principle.
Amendment to the Act on Investment Companies and Investment Funds (ZISIF)Since the beginning of 2015 each investment fund is only able to have one management company and one administrator. Management companies are now allowed to provide an individual activity within the scope of the management or administration to third
3 Directive 2009/65/EC of the European Parliament and of the Council of 13 July 2009 on the coordination of laws, regulations and administrative provisions related to undertakings for collective investment in transferable securities (UCITS).
4 Directive 2011/61/EU of the European Parliament and of the Council of 8 June 2011 on Alternative Investment Fund Managers and amending Directives 2003/41/EC and 2009/65/EC and Regulations (EC) No. 1060/2009 and (EU) No. 1095/2010.
5 Regulation (EU) No. 345/2013 of the European Parliament and of the Council of 17 April 2013 on European venture capital funds; Regulation (EU) No. 346/2013 of the European Parliament and of the Council of 17 April 2013 on European social entrepreneurship funds.
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parties under certain conditions. The amendment also contains rules regarding the control obligations of the depositary towards the management company, introduced the application of the rule on diversification also to funds of qualified investors, introduced the possibility of changing its investment strategy during the activities of the fund or the option to include costs in the cost of the collective investment fund, which was not possible before 1 January 2015 and the amendment newly regulates private placement (whereby the limit is set as 20 investors).
Other changes are affecting certain specific legal forms of investment funds. ZISIF, in the case of a joint-stock company with variable capital (SICAV), introduces a mandatory requirement for a single management board, which brings ZISIF in line with the requirements of the Law on Commercial Corporation.
Redefinition of securities – repeal of the Act on SecuritiesAct No. 591/1992 Coll., on Securities, was repealed as of 1 January 2014 and securities and their issuance and dispositions are now governed by the new Civil Code. A security is now defined as a certificated deed embodying a specific right in a way that such right cannot be used without the presentation of such certificate. Book-entry securities are defined as a separate category from securities that are in certificated form. Both securities and book-entry securities are recognised by the Civil Code as ‘articles’; thus, securities are tangible articles and book-entry securities are intangible ones.
Unlike under previous legal regimes, certificates of fungible securities may be incorporated in a bulk certificate representing the aggregate of the individual certificates.
One important innovation that has been introduced is an explicit provision on the issuance of ‘innominate securities’, which enable a large degree of flexibility in the issuance of securities and book-entry securities, incorporating a very broad range of rights and – even complex – investment strategies. This enables the issuance of several classes of shares with different rights attributed or various kinds of investment certificates. A good use of investment certificates can be demonstrated by the recent issuances of certificates by banks in the Czech Republic that represent additional Tier 1 instruments under the CRD IV Directive.6
Amendment to the Act on BanksThe recent major amendment of the Act on Banks represents transposition of the CRD IV Directive and accommodation of the CRR regulation.7 These EU rules now govern the area of regulatory capital compensation, management and corporate governance of banks. The new rules also bring enhanced cooperation among national competent banking authorities and the European Banking Authority (EBA), as well as
6 Directive 2013/36/EU of the European Parliament and of the Council of 26 June 2013 on access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms, amending Directive 2002/87/EC and repealing Directives 2006/48/EC and 2006/49/EC.
7 Regulation 575/2013/EU of the European Parliament and of the Council of 26 June 2013 on prudential requirements for credit institutions and investment firms, amending Regulation (EU) No. 648/2012.
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harmonising the supervision of banking groups and sanctioning the introduction of early intervention tools for banking authorities.
The main changes to the Act on Banks represent an introduction of new capital reserves such as the safety capital reserve, countercyclical capital reserve, capital reserves to cover systemic risk and a capital reserve for systemically important institutions.
The amendment also deals in detail with corporate governance, whistle-blowing and reporting. It also provides for the transfer of the liability for the supervision of the liquidity of bank branches from the host country to the home country supervisory authority.
Numerous technicalities of the new regime for banks are stipulated in an extensive decree issued by the CNB,8 which is accompanied by numerous official communications.
Of course, the national rules and guidance only complement the framework of the directly applicable CRR and the vast number of regulatory technical norms, and implement technical norms issued by the European Commission and guidelines issued by the EBA forming the body of the European Banking Single Rulebook.
At the beginning of 2015 the Ministry of Finance submitted a draft of an amendment to the Act on Banks owing to the implementation of Directive No. 2014/49/EU dated 16 April 2014 on deposit guarantee schemes.
The most important changes brought by the proposed draft Act are:a changes to the rules on financing the Deposit Insurance Fund;b the possibility of borrowing financial resources between the Czech Deposit
Insurance Fund and Deposit Guarantee Scheme based in other Member States;c removal of the deposits of state and local government units from cover provided
by the DGS (only deposits of small muncipalities are covered – local government units with actual tax revenues of up to €500,000);
d the establishment of protection of individuals’ deposits resulting from some operations with residential real estate or deposits placed in connection with certain social or other purposes for a transitional period of three months (within this period the compensation limit is two times higher);
e additional disclosure to depositors regarding the Deposit Insurance Fund; andf introducing an obligation of the Deposit Insurance Fund to conduct stress tests of
the system for reporting of covered deposits and pay-out by the Deposit Insurance Fund in case of any bank becoming insolvent.
Amendment to the Act on InsuranceThe Czech government only recently proposed a major amendment to the Act on Insurance transposing the Solvency II Directive9 and the Omnibus II Directive.10
8 163/2014 Coll., on Conduct of Business of Banks, Cooperative Savings Institutions and Investment Firms.
9 Directive 2009/138/EC of the European Parliament and of the Council of 25 November 2009 on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II).
10 Directive 2014/51/EU of the European Parliament and of the Council of 16 April 2014, amending Directives 2003/71/EC and 2009/138/EC and Regulations (EC) No. 1060/2009,
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The main objective is to strengthen the financial stability of insurance companies and reinsurance undertakings and to enhance the protection of policyholders by introducing additional capital and solvency requirements and stipulating more stringent rules for the corporate governance of insurance companies, as well as introducing new conduct of business and transparency rules towards policyholders. The amendment extends the powers of the CNB as the supervisory authority and strengthens its responsibility for the stability of the insurance market. On 16 June 2015 the amendment passed second reading in the Chamber of Deputies.
Pension fund lawsThe pension system is based on three pillars: public pensions, retirement savings and supplementary pension savings.
The Act on Retirement Savings governs the second pillar under which the contributions are invested in retirement funds adhering to similar regimes as standard UCITS unit funds. Unlike a unit fund, retirement funds do not issue shares but rather ‘retirement units’. Companies managing retirement funds must establish four mandatory retirement funds, each having a statutory prescribed structure of assets, investment limits and investment regimes. These are state bond retirement funds, conservative retirement funds, balanced retirement funds and dynamic retirement funds. These companies must obtain a licence and fulfil statutory requirements. The process for the establishment of funds requires the permission of the CNB.
The Act on Supplementary Pension Savings sets out a voluntary system under which the contributions of participants are invested in a variety of types of pension fund structures similar to the standard UCITS unit funds investing in the financial markets.
The contributions paid by participants are boosted by additional state contributions and employers may also pay contributions on behalf of their employees.
Pension companies managing retirement funds are obliged to establish at least one retirement fund: a mandatory conservative fund with a statutorily prescribed investment strategy. They may also establish other retirement funds with asset structures and investment limits determined by law, but in which the particular investment strategy remains at their own discretion.
The Act on Supplementary Pension Savings also regulates the transformation of pension funds existing under previous legislation to special transformed funds under which the assets of shareholders and participants are segregated. Upon the application of an individual participant, their share in the transformation fund may be subsequently transferred to a new retirement fund. The Act provides for the establishment of pension companies to manage such transformed funds. Pension fund operators were transformed into pension companies and currently manage pension funds and retirement funds.
(EU) No. 1094/2010 and (EU) No. 1095/2010 in respect of the powers of the European Supervisory Authority (European Insurance and Occupational Pensions Authority) and the European Supervisory Authority (European Securities and Markets Authority).
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The abolition of the second pillar of the pension systemFrom the beginning of 2016 it will not be possible to save money in the second pillar of pension savings. Pension funds should be abolished according to the proposal as of July next year, and shall enter into liquidation. Liquidation should be terminated by transferring of financial resources and by the cessation of funds by early January 2017. Participants will be able to obtain financial resources by transfer to the account, by postal order or by transfer as a contribution to a voluntary third pillar.
iii Cases and dispute settlement
Disputes concerning capital market transactions are rarely settled by the public courts. They are more often settled out of court or by professional arbitration courts or ad hoc arbitrators. This leaves only a limited number of cases to be decided by the courts. As such, there is little publicity regarding decisions in cases in this field.11
iv Relevant tax and insolvency law
Tax lawRecent amendment to the Act on Income Tax has brought major changes to the taxation of retail investors. Currently, private investors holding securities over six months are not subject to security income tax. This amendment changes this period by increasing it to three years. The taxation rate will also increase from 15 per cent to 19 per cent. It is also important to mention that dividends from subsidiary companies paid to parent companies are exempt from taxation. The conditions are that at least a 10 per cent business share in the subsidiary company has been held for at least 12 months. The 12-month holding period can be fulfilled subsequently to payment of dividends.
An amendment to the Act on Income Tax changes the rate of taxation of investment funds according to the type of fund. Recently the funds were divided into basic investment funds,12 which can continue to tax their incomes by 5 per cent, and
11 Recently, the courts decided on several cases regarding liability for damage by investment firms caused to their clients by providing advice. Generally, the court concluded that investment firms were in breach of the professional due care obligation as they had not acted competently, honestly and fairly and in the best interests of their clients. These court judgments may eventually lead to enhanced judicial protection of investors in practice. Gradually, more disputes in the area of capital markets have also been subject to review by the Arbitration Court of the Czech Chamber of Commerce in recent years. The Financial Arbitrator has not yet dealt with any consumer dispute in the area of capital markets.
12 Basic investment fund means: a funds whose shares are traded on a European regulated market;
b investment funds and subfunds of a stock company with variable capital (in accounting and property terms a separate part of the capital with their own investment strategies), if the company is a collective investment fund; or
c open-ended mutual funds and investment funds investing more than 90 per cent of their assets in equities and bonds.
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other investment funds, which will have the same taxation as ordinary taxpayers of corporate income tax (i.e., 19 per cent).
Other national and selected international investment funds may, under the conditions set out in the Act (while complying with conditions of the investment restrictions), also apply a reduced rate of tax.
Insolvency lawAmendment to the Insolvency ActOn 1 January 2014, a major amendment to the Insolvency Act came into effect. One of the most discussed changes is the access to rehabilitation by means of insolvency (reorganisation and debt relief ) to a wider range of natural persons. Previously, the basic prerequisite for the courts permitting such debt relief was the fact that the debtor was not an entrepreneur, whereas now, the nature and structure of their debts is the relevant factor. The common debt relief regime of spouses was also introduced. In the context of insolvency proceedings, spouses have the status of inseparable companions and are considered as a single debtor. The amendment firmly fixes the deadline for the filing of creditors’ applications at two months for the court declaration.
The amendments also deal with the issue of creditors’ receivables that are not met in full in the insolvency – it stipulates an order for offsetting the sub-components of the receivable:a the principal;b interest;c default interest; andd any costs associated with the enforcement of the receivable.
In May 2015 the Ministry of Justice submitted for interdepartmental comments a draft of an amendment to the Insolvency Act. The amendment focuses on reducing administrative burdens of insolvency courts and at the same time increasing transparency of insolvency proceedings through, for example, the introduction of machine-readable submissions of managers and preferences of submissions through data boxes. On the other hand, the amendment provides the elimination of the negative impacts of the bullying insolvency proposals through the preliminary consideration of the insolvency proposals.
Another aim of the amendment is to strengthen the supervisory powers of the Ministry over the insolvency administrators and over the performance of their functions. The amendment should also help to eliminate the activity of those companies that abuse the difficult situation of the debtor, charging large fees for providing worthless advice.
The Ministry of Justice has proposed that the changes take effect from 1 July 2016.
v Role of exchanges, central counterparties and rating agencies
ExchangesThere are two regulated markets operating in the Czech Republic: the Prague Stock Exchange (PSE) and the RM-SYSTEM Czech Stock Exchange (RM-S). Both systems provide trading on the regulated market and a multilateral trading facility. The PSE, together with the stock exchanges in Budapest, Ljubljana and Vienna, belongs under
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the CEE Stock Exchange Group. The most important PSE market is the Prime Market, in which the most liquid securities are traded. Moreover, the PSE offers trading on the Standard Market, focused on small and medium-sized investors. These markets have the status of regulated markets under MiFID. The PSE operates the START market for SMEs, which is a multilateral trading facility. The PSE uses the trading system Xetra, which offers several trading modes, including continual trading and auctions.
The RM-S is a local entity, owned and operated by FIO Banka, facilitating trades for small and medium-sized investors. The most significant commodity exchange is the Power Exchange Central Europe (PXE), trading electricity. The PXE is a subsidiary of the PSE. There are also three local commodity exchanges focusing on agricultural commodities in the Czech Republic.
The Central Securities Depository PragueThe activities of the Central Depository encompass the operation of a central register of dematerialised securities issued in the Czech Republic, the operation of a settlement system for the settlement of trades, securities and other investment instruments concluded on the PSE, as well as OTC transactions, the lending of securities, administration and management of collateral, custody services, the administ ration of investment instruments maintained in a separate register and other activities.
Rating agenciesOf the ‘big three’, there is only one affiliate of Moody’s rating agency permanently present in the Czech Republic. Moody’s activities include providing credit ratings, research, tools and analysis that contribute to transparent and integrated financial markets. Czech legislation governing the activities of rating agencies is fully in line with Regulation No. 1060/2009, on credit rating agencies,13 which governs the activities of credit rating agencies in the European Union.
III OUTLOOK AND CONCLUSIONS
Despite the slow recovery of the eurozone from the debt crisis, the financial sector in the Czech Republic remains stable. Czech economics have been influenced only to a limited extent by the slowdown of economic activity in the EU, but developments in the eurozone and international financial markets may still bring many risks for the future financial stability of the Czech Republic.
The main threat to the Czech economy remains the slow-down in the economic activities of its neighbour states. This threat arises from the connection of the financial sector, public finances and real economics. The Czech financial market was also hit by the fluctuations on the global financial market, but since spring 2013 the risks to financial stability have been reduced due to positive developments on the markets and in the economy as a whole. The main risk is the potential deterioration of the quality of the
13 Regulation (EC) No. 1060/2009 of the European Parliament and of the Council of 16 September 2009, on credit rating agencies.
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loan portfolio of the banks as a result of adverse developments in the real economy and due to less prudent standards for lending.
One step in the right direction in the field of public finances is demonstrated by the recent agreement on the fiscal stability accord.
Czech regulations concerning the capital markets are derived from the European Union acquis communautaire, which, in relation to the financial debt crisis, is expected to bring more restrictive and detailed rules and regulations to capital markets in the coming years as evidenced by the recent introduction of the EMIR regulation and the newly issued MiFID II14 and MAR Directives.15
i Implementation of MiFID II
At the end of June 2015 the Ministry of Finance submitted for interdepartmental comments a draft of an act amending a number of acts in connection with the implementation of the MiFID II Regulation. This act should take effect sometime during 2016.
ii Amendment to the UCITS IV Directive (UCITS V)
On 28 August 2014 an amendment to the Directive on the coordination of regulations and administrative provisions relating to undertakings for collective investment in transferable securities (UCITS) was published in the Official Journal of the European Union regarding the activity of depositaries, remuneration policies and sanctions.
The deadline for implementation of the Directive into national law has been set at 18 March 2016. UCITS V will be implemented in the Czech law by amendment of the Act on Capital Markets. On 7 October 2015 the draft law passed its first reading in the Chamber of Deputies.
iii Amendment to the Act on Recovery and Resolution on the financial market
Since 2014, in connection with the transposition of the Bank Recovery and Resolution (BRRD) Directive, work has been ongoing on the bill of an Act on Recovery and Resolution on the financial market and the draft of an act amending certain acts in connection with the draft of the Act on Recovery and Resolution on the financial market. On 20 October 2015 the bill passed its second reading in the Chamber of Deputies and is expected to take effect on 1 January 2016.
14 Directive 2014/65/EU of the European Parliament and the Council of 15 May 2014 on markets in financial instruments, amending Directive 2002/92/EC and Directive 2011/61/EU. MiFID II reinforces the existing rules for the provision of investment services and operation of trading venues in the European Union. It also regulates the provision of certain information services on the capital markets and transparency requirements.
15 Regulation (EU) No. 596/2014 of the European Parliament and the Council of 16 April 2014 on market abuse (market abuse regulation), repealing Directive 2003/6/EC of the European Parliament and the Council and Commission Directives 2003/124/EC, 2003/125/EC and 2004/72/EC.
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Chapter 7
DENMARKRikke Schiøtt Petersen, Morten Nybom Bethe,
Anton Malling Mikkelsen and Jakob Gregers Andersen1
I INTRODUCTION
i Structure of the law
The law governing the Danish capital markets is largely based on EU law. Accordingly, many Danish regulatory structures will be familiar to capital market practitioners in other EU member states. The primary legislation of Danish capital markets is:a the Securities Trading Act,2 which, inter alia, regulates public offerings of
securities;b the Financial Business Act,3 which regulates financial businesses, including
portfolio management; andc the Act on Managers of Alternative Investment Funds,4 which implements the
EU Alternative Investment Fund Managers Directive and regulates the managers of alternative investment funds as well as the marketing of alternative investment funds.
A number of delegated acts (executive orders) issued pursuant to the foregoing Acts are also key. The most important executive orders include the Small Prospectus Executive
1 Rikke Schiøtt Petersen and Morten Nybom Bethe are partners, Anton Malling Mikkelsen is attorney-at-law and Jakob Gregers Andersen is an assistant attorney at Gorrissen Federspiel.
2 Consolidated Act No. 831 of 12 June 2014, as amended.3 Consolidated Act No. 182 of 18 February 2015, as amended.4 Act No. 598 of 12 June 2013, as amended.
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Order;5 the Large Prospectus Executive Order,6 which implements the EU Prospectus Directive; as well as the Executive Order on Market Abuse7 (implementing the EU Market Abuse Directive), the Executive Order on Reporting of Securities Transactions,8 the Executive Order on Major Shareholders,9 the Executive Order on Takeover Bids,10 and the Executive Order on Conditions for Admission of Securities to Official Listing.11
ii Stock exchange regulations
In Denmark, securities can be admitted to trading and official listing on two marketplaces: NASDAQ OMX Copenhagen A/S (Nasdaq Copenhagen) and NASDAQ OMX First North Denmark (First North). Nasdaq Copenhagen is a regulated market, whereas First North is an alternative marketplace and thus not subject to EU regulation applicable to regulated markets (e.g., the rules on regulated markets in Markets in Financial Instruments Directive (MiFID), IFRS and the Transparency Directive).12 Nasdaq Copenhagen is a separate legal entity incorporated under Danish law and a member of NASDAQ OMX Nordic, which in turn is part of NASDAQ OMX Group Inc.
Nasdaq Copenhagen has issued certain sets of rules, including rules for issuers of shares governing, inter alia, the requirements for admission to trading and official listing, disclosure requirements for issuers of shares and rules on internal rules and rules for issuers of bonds and other types of securities.
In addition to the rules contained in Nasdaq Copenhagen’s rule book, rules governing admission to trading and official listing and ongoing reporting obligations, etc. are found in the Securities Trading Act implementing relevant EU regulation including the Market Abuse Directive, the Transparency Directive and MiFID.
Previously, GXG Markets A/S had authorisation to operate the regulated market GXG Official List and the multilateral trading facilities GXG First and Main Quote. Following an on-site inspection by the Danish Financial Supervisory Authority (the Danish FSA) in November 2014, the Danish FSA submitted to GXG a draft decision on withdrawal of GXG’s licences. On 6 July 2015, GXG announced that it had decided to voluntarily relinquish its Danish market operator licences effective as of 18 August 2015.
5 Executive Order No. 811 of 1 July 2015 on Prospectuses for Offers to the Public of Certain Securities between €1 million and €5 million.
6 Executive Order No. 1104 of 9 October 2014 on Prospectuses for Securities Admitted to Trading on a Regulated Market and for Offers to the Public of Securities of more than €5 million.
7 Executive Order No. 386 of 18 April 2013 on Notice, Notification and Public Disclosure of Managers’ Transactions, Lists of Insiders, Notification of Suspicious Transactions, Signals of Market Manipulation and Accepted Market Practices.
8 Executive Order No. 932 of 26 August 2011 on Reporting of Securities Transactions.9 Executive Order No. 668 of 25 June 2012 on Major Shareholders.10 Executive Order No. 562 of 2 June 2014 on Takeover Bids.11 Executive Order No. 1069 of 4 September 2007 on Conditions for Admission of Securities to
Official Listing.12 Directive 2013/50/EU of 22 October 2013.
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iii Structure of the courts
The Danish court system is based on a three-tier organisation of the ordinary courts: (1) the district courts; (2) the two High Courts (the Eastern High Court and the Western High Court) and the Maritime and Commercial Court; and (3) the Supreme Court. Generally, any filing for litigation must be brought before the competent district court as the court of first instance with an option to appeal to the relevant High Court. However, suits involving matters of principle may be referred to the High Court in the first instance and suits regarding commercial matters may be brought directly before the Maritime and Commercial Court, which has its seat in Copenhagen.
As an alternative to the traditional court system, the Danish Institute of Arbitration operates a permanent arbitration institution that assists in the resolution of different types of disputes in relation to both national and international arbitration. The Danish Institute of Arbitration may appoint arbitral tribunals for all matters of law that are considered arbitrable (i.e., not matters that must be brought before an ordinary court of law). Decisions and awards by an arbitral tribunal seated in Denmark are final and binding and not subject to judicial review, except for the reasons of invalidity as stated in the 1958 Convention on the Recognition and Enforcement of Foreign Arbitral Awards (the New York Convention). Denmark is a contracting state to the New York Convention and Danish arbitral awards are generally enforceable in other New York Convention contracting states.
iv Local agencies and the central bank
The Danish FSA is a governmental agency and part of the Ministry of Business and Growth. The Danish FSA’s main task is to supervise compliance by financial undertakings and issuers of securities as well as investors on the securities market.
The Danish FSA is, inter alia, responsible for authorisation, supervision, the interpretation of rules applicable to financial undertakings and conducting on-site inspections of financial undertakings. The Danish FSA is also responsible for the supervision of the applicable regulations on insider trading and price manipulation as well as applicable requirements to public offerings of securities (compliance with prospectus requirements, etc.).
In addition to its supervisory activities, the Danish FSA has an important role in developing the applicable Danish financial legislation as it both assists the Ministry of Business and Growth with preparing draft bills for introduction to the Danish parliament and has widespread delegated authority to issue executive orders supplementing the relevant financial legislation. Finally, the Danish FSA collects and communicates statistics and key figures for the financial sector.
Furthermore, the Danish FSA is authorised to impose various sanctions on financial undertakings if supervision shows non-compliance with the applicable legislation. Available sanctions include payment of administrative fines, withdrawal of the relevant licence or ordering a financial undertaking to dismiss an executive manager or to order a member of the board of directors to resign. Breaches of financial legislation are also subject to criminal sanctions.
Danmarks Nationalbank is the central bank of Denmark and is a self-governing, independent institution and thus independent of the Danish parliament and government.
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The independence of Danmarks Nationalbank is incorporated into the Danmarks Nationalbank Act of 1936, in that the bank’s board of governors is solely responsible for determining monetary-policy interest rates. Danmarks Nationalbank’s three main objectives are to contribute to ensuring stable prices, safe payments and a stable financial system.
v Supervision and sanction
In Denmark, the Danish FSA is generally responsible for the supervision of compliance with the Securities Trading Act. The majority of cases are handled through the Danish FSA and only a small number of cases reach the ordinary courts. Depending on the nature of the violation of the Securities Trading Act, the common reaction from the Danish FSA is to issue a fine. Decisions made by the Danish FSA can be brought before the Danish Company Appeals Board and decisions from the Danish Company Appeals Board can be appealed to the Danish courts.
Recently, a number of cases concerning price manipulation have been brought before the Danish courts by the public prosecutor (e.g., against Parken Sport & Entertainment and the former CEO and Chairman (case appealed)), and various cases against former employees in Danish banks that went into bankruptcy during the financial crisis.
In addition, Nasdaq Copenhagen supervises and can impose sanctions for violations of the rules issued by Nasdaq Copenhagen and it is responsible for activities on their markets being conducted in an adequate and appropriate manner.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
Recent years’ initial public offering (IPO) activity in the Danish capital markets is characterised by a relatively small number of transactions compared to the Nordics in general; however, the IPOs that have taken place have been considerable in terms of market capitalisation compared to the Nordics generally. Following on from the Matas IPO in 2013, 2014 showed improvements in the Danish capital markets with the IPOs of ISS and OW Bunker in March 2014. The positive development in the Danish capital markets was, however, severely negatively impacted by the subsequent bankruptcy of OW Bunker in November 2014, only seven months after the first day of trading on Nasdaq Copenhagen.
The Danish capital markets have slowly recovered during 2015 in which only one IPO has been completed – the IPO of NNIT (a spin-off of the Novo Nordisk Group) in March 2015 which showed an extraordinary demand for the shares and an increase of the price range (the first ever in a Danish IPO context).
Even though share prices have increased significantly during 2015 – presumably having a positive effect on IPO pricing – no other companies have publicly announced plans for an IPO to be completed in 2015, although a number of companies (e.g., DONG Energy) have indicated that preliminary preparations for an IPO have been or will be initiated.
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A number of other capital market transactions have been completed in Denmark during 2015 covering both sell-downs by private equity funds and strategic block-sale of shares. Examples include the shipping company TORM’s public offering of new shares in connection with a complex restructuring, and A.P. Møller – Mærsk’s public offering of its entire ownership interest in Danske Bank (20 per cent of the total share capital) by virtue of a listing prospectus based on publicly available information only.
Share buy-back programmes continue to be a popular initiative for Danish listed companies.
Public takeoversThe Danish takeover regime consists of the Securities Trading Act and the Executive Order on Takeover Bids, which collectively implement parts of the EU Takeover Bids Directive. In addition, the Danish FSA has issued Guidelines13 supplementing the Executive Order on Takeover Bids.
In July 2014, amendments to the Securities Trading Act and the Executive Order on Takeover Bids came into force introducing a number of changes to the Danish takeover regime. The following are the most significant changes:a The threshold for ‘controlling influence’ (which triggers a mandatory offer) was
lowered from ‘more than 50 per cent’ to ‘no less than one-third’ of the voting rights; however, still subject to certain exceptions.
b A bidder is now obliged to launch a mandatory offer upon obtaining controlling influence through a preceding voluntary offer, if the bidder does not obtain more than half of the voting rights through the voluntary offer.
c The principle of equal shareholder treatment has been extended to apply for a six-month period after the completion of the takeover (the ‘cool-down period’) to the effect that the bidder will be required to compensate shareholders that accepted the takeover bid, if the bidder acquires additional shares during the cool-down period on more favourable terms.
d The offer period has been reduced to a maximum of 10 weeks. However, if approval from relevant public authorities (e.g., antitrust clearance) is required, the offer period may now be extended up to nine months.
e The shareholders of the target company now have a right to withdraw their initial acceptance of a takeover bid in favour of accepting a competing bid within three working days of the publication of the competing bid.
f No later than 18 hours after the expiry of the offer period, the bidder is now required to publish an announcement stating whether the takeover bid will be extended or shall be considered final.
Additionally, minor changes to the public takeover regime have been introduced; for example, gifts may now trigger a mandatory offer, however, an exemption may be granted by the Danish FSA under certain circumstances.
13 Guidelines No. 9687 of 15 September 2014.
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Financial sectorThe general view is that financial institutions in Denmark have landed on their feet after some extremely difficult years and that the additional requirements imposed (and to be imposed) on banks will provide for a more stable financial sector that should be better prepared for any new future challenges.
The Danish banking sector has in the past 25 years experienced significant consolidation, which was only intensified as a consequence of the financial crisis. The Danish banking sector is, however, still comprised by a significant number of small and medium-sized banks and saving banks when compared to its Nordic peers and it is the expectation that both funding and capital adequacy requirements as well as increased regulation will facilitate further consolidation in the Danish banking sector. We have also seen the transformation of saving banks into banks in order to obtain funding via official listing on the Nasdaq Copenhagen.
Danish insurance companies are preparing for the implementation of the Solvency II Directive14 in Denmark. The Solvency II Directive was implemented into Danish legislation by Act No. 308 of 28 March 2015 amending the Financial Business Act, which will enter into force on 1 January 2016. Two Danish insurance companies have already publicly announced that they will issue subordinated capital which complies with the new regime under the Solvency II Directive.
The Alternative Investment Funds Managers DirectiveThe EU Alternative Investment Fund Managers Directive15 (AIFMD) was implemented in Denmark on 22 July 2013 by the Act on Managers of Alternative Investment Funds etc.,16 as amended from time to time (the AIFM Act). In order for a foreign alternative investment fund (AIF) to be marketed to professional investors in Denmark, its manager (AIFM) must either passport its authorisation pursuant to the AIFMD (only available to EEA/EU-AIFs managed by EU/EEA-AIFMs) or obtain an approval from the Danish FSA to market the AIF to professional investors in Denmark. Such marketing permit would also allow for marketing towards so-called ‘sophisticated investors’. The term ‘sophisticated investors’ covers the following entities or individuals:a a manager, director, or another employee with the AIFM or AIF(s) managed by
the AIFM; orb an investor who (1) makes a minimum initial investment or commitment
of €100,000 (or currency equivalent) in the AIF, and (2) declares in writing to acknowledge and accept the risks relating to the relevant commitment or investment.
It is also possible for AIMFs to obtain a special approval to be permitted to market AIFs towards retail investors in Denmark. The AIFMD and the AIF will have to comply with very strict regulation before the AIF can be marketed towards retail investors. For
14 Directive 2009/138/EC of 25 November 2009.15 Directive 2011/61/EU of 8 June 2011.16 Act No. 598 of 12 June 2013.
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example, the AIFM is required to appoint a representative with a registered office in Denmark.
New rules affecting the Danish corporate bond marketSecuritisationIn January 2014, certain sections to the Financial Business Act were adopted to enable banks to establish refinancing registers for securitisation purposes by issuing securities backed by pools of loans and credits to enterprises.
With the permission of the Danish FSA, banks are able to establish refinancing registers and sell their rights in loans and credits to an authorised entity. Registration of the transferred loans and credits constitutes perfection and the ownership of the assets is transferred once the assets are reflected in the refinancing register. Consequently, the bank’s creditors cannot seek satisfaction on assets registered in the refinancing register. In general, the register will often be established as an SPV. The SPV buys the commercial loans from the bank and the SPV will be able to buy different groups of commercial loans from different banks. It is, therefore, possible for two or more small Danish banks to establish a joint SPV. Based on the assets in the SPV, the SPV will issue corporate bonds to investors. The bonds issued by the SPV must be at a minimum denomination of €100,000 (i.e., designed for either professional or institutional investors). No Danish banks have to our knowledge made use of the possibility to establish such SPVs yet.
Representatives and security agentsIn January 2014, a new Act17 was introduced which resolved past uncertainties with respect to trustees under Danish law by recognising the use of security agents and trustees in syndicated loans and, subject to certain conditions, the use of bondholder representatives and security agents in bond issues. The new rules provide that security interests can be granted directly in favour of the representative in relation to bond issues, and the security agent in respect of syndicated loans, acting on behalf of the secured parties from time to time, thus making perfection and preservation of security interests in connection with bond issues and syndicated loans more feasible.
As regards bond issues, the representative’s main function is to protect and monitor the interests of the bondholders towards the issuer. The specific role and obligations of the representative will, with respect to each issuance, be established in an agreement entered into between the issuer and the representative for the benefit of the bondholders. This agreement would, inter alia, include provisions on enforcement, no-action clauses, establishment of security and limitation of liability of the representative. All actions taken by the representative will be binding on the bondholders from time to time without any further action required to be taken. In order to take advantage of the specific legislation in relation to bond representatives, the representative under each of the bond issues has to be registered with the Danish FSA. Only companies with limited liability domiciled in Denmark, the EU/EEA and certain other countries may act as a representative.
17 Act No. 1613 of 26 December 2013.
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Inside information and disclosure requirementsThe Securities Trading Act and executive orders issued thereunder govern the disclosure obligations for listed companies. Pursuant to the Securities Trading Act, listed companies are required to publicly announce inside information (i.e., any information that is likely to have a significant effect on the price of the securities of the listed company) as soon as possible after the relevant event comes into existence regardless of whether the event has been formalised at that time. Certain exceptions apply, for example, a right for the listed company to delay publication of inside information in certain circumstances where publication could be detrimental to the interests of the listed company.
Implementation of the Recovery and Resolution DirectiveOn 26 March 2015, the Danish parliament adopted the bills implementing the Resolution and Recovery Directive18 (BRRD) and the Revised Deposit Guarantee Scheme Directive19 which entered into force on 1 June 2015. The general bail-in tool also came into effect on 1 June 2015. According to the implementation of the BRRD into Danish legislation, the previous applicable resolution schemes for Danish banks and credit-mortgage institutions were revoked with effect as of 1 June 2015. The resolution and recovery of Danish banks and credit-mortgage institutions is thus only subject to the BRRD as implemented in Denmark.
The BRRD also requires that European banks hold a certain minimum amount of bail-in-able resources, the so-called Minimum Requirement for own funds and Eligible Liabilities (MREL). The consequences of non-compliance with the MREL requirements are still unclear and the MREL requirement for Danish institutions is expected to be based on the EBA methodology.
Danish credit mortgage institutions are exempt from the bail-in instrument and thus not required to fulfil the MREL requirement. The credit mortgage institution is required to have a debt buffer of 2 per cent of its total non-weighted lending portfolio at all times. The debt buffer requirement can be fulfilled by using the following capital and debt instruments:a CET1 capital;b AT1 capital;c Tier 2 capital; andd unsecured senior debt.
The capital instruments used to fulfil the debt buffer may not be used at the same time to fulfil the own funds requirement, solvency need/requirement or the combined capital buffer requirement of the institution. If AT1, Tier 2 or other unsecured senior debt is used to fulfil the debt buffer, the instrument is required to have a maturity of at least two years and there has to be a spread of the maturity dates of the institutions capital and debt instruments.
18 Directive 2014/59/EU of 15 May 2014.19 Directive 2014/49/EU of 16 April 2014.
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It is still unclear whether Denmark, despite being outside the eurozone, will join the European Banking Union and therefore be part of the Single Resolution Mechanism20 including the Single Resolution Fund.21
In June 2014, the Danish FSA appointed six Danish SIFIs: Danske Bank A/S, Nykredit Realkredit A/S, Nordea Bank Danmark A/S, Jyske Bank A/S, Sydbank A/S and DLR Kredit A/S. The appointment of SIFIs is to be made every year, and on 30 June 2015 the above-listed institutions were re-appointed as SIFIs. The SIFIs were identified in accordance with Article 308 of the Financial Business Act implementing various aspects of the CRD IV Directive. Institution-specific SIFI buffers between 1 and 3 per cent were set according to quantitative SIFI criteria and will be phased in gradually from 2015 to 2019. According to the political agreement on SIFIs from October 2013, the final capital requirements imposed on Danish SIFIs must be on par with the requirements applied by other comparable European countries. Consequently, the final level of the Danish SIFI capital requirements will be assessed no later than 2017 after evaluating a basket of comparable final SIFI requirements set by other European countries.
ii Developments affecting derivatives, securitisations and other structured products
DerivativesThere have not been any significant developments in Denmark in 2015 with respect to the Danish derivatives market. The main focus of financial institutions and counterparties has been to continue ensuring compliance with the applicable requirements of EMIR.22
SecuritisationsThe Danish market for securitisations has since the financial crisis hardly seen any activity and the Danish securitisation market is not expected to experience any significant activity in the near future.
iii Cases and dispute settlement
Very few capital markets-related disputes reach the ordinary courts. Most disputes and complaints are dealt with in the administrative system or by arbitration. However, Pandora is facing a lawsuit initiated by investors claiming damages based on an alleged breach of the general disclosure obligation for listed companies. Also, in the aftermath of OW Bunker’s bankruptcy in November 2014 following its IPO in March 2014, several investor groups (both retail and institutional investors) have proclaimed that they intend to initiate proceedings against relevant parties, including the former management. Finally, see the description of recent price manipulation cases in Section I.v, infra.
20 Regulation (EU) No. 806/2014 of 15 July 2014.21 Regulation (EU) 2015/81 of 19 December 2014 specifying uniform conditions of application
of Regulation (EU) No. 806/2014 of the European Parliament and of the Council with regard to ex ante contributions to the Single Resolution Fund.
22 Regulation (EU) No. 648/2012 of 4 July 2012.
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iv Relevant tax and insolvency law
Danish tax principlesThe main rule is that corporations, irrespective of the period of ownership, are exempt from tax on dividends and capital gains on shareholdings provided that the shareholding is at least 10 per cent of the relevant company. Dividends received from shareholdings of less than 10 per cent in unaffiliated companies (so-called portfolio shares) and capital gains on listed portfolio shares are subject to corporate income tax. However, only 70 per cent of dividends received on non-listed portfolio shares will be subject to corporate income tax. Capital gains on non-listed portfolio shares are exempt from taxation (exceptions and anti-avoidance rules apply). Dividends and capital gains on treasury shares are tax-exempt. Individuals are subject to tax on all dividends and capital gains on shareholdings.
For corporate entities, the tax on listed portfolio shares will be calculated and paid annually based on a mark-to-market principle and taxation will take place on an accrual basis even if no shares have been disposed of and no gains or losses have been realised. The corporate tax rate will be gradually lowered from the current 23.5 per cent to 22 per cent in 2016.
Individuals calculate their tax on all shares based on a realisation principle (exceptions apply). The tax rate for capital gains on shares and dividends is progressive and taxed at a rate of 27 per cent on the first 49,900 kroner in 2015 (for cohabiting spouses, a total of 99,800 kroner) and at a rate of 42 per cent on share income exceeding 49,900 kroner (for cohabiting spouses over 99,800 kroner).
For all non-tax residents, capital gains on shareholdings remain tax-exempt irrespective of ownership percentage and ownership duration (certain anti-avoidance rules relating to Danish withholding taxation of dividends or rules on permanent establishment may apply). Generally, foreign corporate shareholders are also exempt from tax on dividends if holding at least 10 per cent in a Danish company (exceptions and anti-avoidance rules apply). Dividends paid to foreign corporate shareholders holding less than 10 per cent and dividends paid to individuals are subject to Danish withholding tax at a rate of 27 per cent. A request for a refund of Danish withholding tax may be made if the dividend receiving company is a resident of a state with which Denmark has entered into a double taxation treaty.
Corporate entities are as a main rule subject to taxation on gains on ordinary claims, bonds, debt and financial debt contracts. Likewise losses on such instruments are, as a general rule, deductible in full. With respect to intra-group financing, losses on receivables and gains on debts are, however, as a general rule tax exempt. Corporate entities may elect to calculate the liable taxes on debt using a realisation principle. A mark-to-market principle must be applied for ordinary claims.
Individual investors are as a main rule subject to taxation on all capital gains on ordinary claims, bonds, debt and financial debt contracts if the gains exceed 2,000 kroner per year. Individual investors’ right to deduct losses on ordinary claims is limited to losses exceeding 2,000 kroner, whereas the right to deduct losses on financial contracts is limited to gains on other financial contracts with a possibility to carry a loss forward to be offset against gains in subsequent income years.
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For individual investors the tax will as a main rule be calculated using a realisation principle. The taxpayer can apply for permission, and is in certain cases entitled to calculate the taxes on a mark-to-market principle.
InsolvencyThe Danish Bankruptcy Act23 governs the two main types of insolvency proceedings: restructuring and bankruptcy. The rules of restructuring were implemented in April 2011, thus there is still little jurisprudence on the subject. As part of Denmark’s opt-outs to certain EU policies, Denmark is not bound by and has not acceded to the EU Insolvency Regulation;24 however, a referendum will take place in December 2015, subsequent to which Denmark may relinquish some of its opt-outs, including that in respect of the EU Insolvency Regulation.
III OUTLOOK AND CONCLUSIONS
2015 has been a relatively busy year so far in terms of public takeover bids (e.g., the competing offers for Nørresundby Bank (completed in February 2015 and subsequently merged with the bidder, Nordjyske Bank) and Mols-Linien (completed in September 2015) as well as the currently pending takeover bid for Stylepit). These takeover bids have been and continue to be especially interesting, since they are some of the first to be carried out under the recently amended public takeover regime.
The merger of Nørresundby Bank and Nordjyske Bank is exemplary of the consolidation that has been taking place in the Danish banking sector in recent years. Considering the relatively large number of small and medium-sized Danish banks and saving banks in comparison to other Nordic countries, further consolidation in the Danish banking sector is expected to take place – partly due to funding and capital adequacy requirements and intensified sector regulation in general.
The IPO of NNIT (part of the Novo Nordisk Group prior to the IPO) has been the only one of its kind in 2015 in Denmark, but a number of companies (e.g., DONG Energy) have publicly indicated, and several others have been rumoured, to be preparing for an IPO.
The aftermath of the bankruptcy of OW Bunker (only seven months after its IPO) remains uncertain at this stage.
23 Consolidated Act No. 11 of 6 January 2014, as amended.24 Regulation (EC) No. 1346/2000 of 29 May 2000 on insolvency proceedings.
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Chapter 8
FINLAND
Juha Koponen, Janni Hiltunen and Laura Vaelitalo1
I INTRODUCTION
The development of the Finnish capital markets has proceeded rather in line with the common European trends with the cyclical changes in activity and any regulatory reactions thereto. The financing of companies and industry in Finland has been very bank-centric, described typically as 80 per cent of financing originating from bank-based debt capital and only 20 per cent from the capital markets, meaning public trading. Following the increased regulation of the banking sector and tightening of capital requirements, as well as the bleak economic climate in general, the role of the capital markets as a source of financing in Finland has notably increased. Both the Finnish regulated market NASDAQ OMX Helsinki Ltd (the Helsinki Stock Exchange) and the multilateral trading facility First North Finland have begun to attract new listing candidates and issuers. The Helsinki Stock Exchange has also recently introduced a simplified listing to First North Bond Market, which enables smaller companies to enter into the bond finance market and trading platform for investors, with template terms and expedited listing procedures without requiring an EU-regulated listing prospectus and IFRS financials.
Helsinki Stock ExchangeThe Helsinki Stock Exchange is the main trading venue in Finland for stocks, bonds and derivative instruments. Helsinki Stock Exchange is a part of NASDAQ OMX Group, which operates in several markets including other Nordic countries. Although the Nordic
1 Juha Koponen is a partner and Janni Hiltunen is an associate at Borenius Attorneys Ltd, and Laura Vaelitalo is an associate at Borenius Attorneys LLP. The authors would like to thank specialist partner Einari Karhu and associate Laura-Maria Lindström for their contribution to the tax section of this chapter.
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exchanges are legally separate entities, they are generally referred to as ‘NASDAQ OMX Nordic’.
The Helsinki Stock Exchange has one official list, the Main Market, which is divided into three segments based on the market capitalisation of the companies. Additionally, the Helsinki Stock Exchange maintains the multilateral trading facilities First North Finland and First North Bond Market Finland for smaller companies not wishing to be listed on the Main Market. As multilateral trading facilities, First North and First North Bond Market do not have the legal status of an EU-regulated market and are subject to lighter regulation than the Main Market.
The Helsinki Stock Exchange and thereby also First North use the INET Nordic trading system for trading in the securities market. Trading and clearing are carried out in euros, with the smallest possible price change (tick size) being €0.0001. Transactions are cleared bilaterally in Euroclear Finland Ltd’s (Euroclear Finland) HEXClear clearing system. Such transactions are carried out on the second business day after the trade date (T+2), unless otherwise agreed upon between the parties.
Book-entry securities systemAll companies whose shares or other securities are subject to public trading on the Helsinki Stock Exchange or to multilateral trading on First North must register these securities in the Finnish electronic book-entry securities system. The book-entry securities system is centralised at Euroclear Finland, which provides clearing and registration services for securities in Finland. Euroclear Finland maintains a book-entry securities system for both equity and debt capital securities. Euroclear Finland also maintains company-specific shareholder registers of shareholders of companies that have joined the book-entry securities system, and offers book-entry account services for shareholders who do not wish to use commercial services offered by account operators.
Similarly, all holders of securities in Finland must open a book-entry account directly with Euroclear Finland or with an account operator, for example, a credit institution registered with Euroclear Finland), or register their shares through a nominee registration process in order to have their securities entered in accounts. It should be noted that Finnish persons or entities may not hold equity securities in (omnibus) nominee-registered accounts. In contrast, a non-Finnish shareholder may appoint an account operator to act as a custodial nominee account holder on its behalf. A holder of nominee-registered shares is not entitled to exercise any rights of holders of book-entry securities towards the issuer without first being registered as a shareholder in the shareholder register. However, such registration is not required for using the right to withdraw funds, convert or exchange book-entries or participate in an issue of shares or other book-entry securities.
i Regulation in Finland
Finland has a civil law system that closely resembles the legal frameworks of the other Nordic countries – Sweden, Norway, Denmark and Iceland. In the past few decades the European cooperation and integration have greatly affected Finnish legislation and, as such, the Finnish securities markets regulation is in line with that of the EU capital markets.
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Legislation and official regulationThe central regulation concerning the capital markets in Finland is the Securities Markets Act (746/2012, as amended) (SMA), which regulates the issuance of securities, trading, insider information and takeover bids. The SMA is essentially aligned with the relevant EU regulation, however, there is certain national gold-plating relating to, for example, prospectus rules. Where an offering would fall below the minimum level of €5 million of the EU Prospectus Directive (2003/71/EC), the SMA still requires preparing of a ‘national prospectus’, for offerings of above €1.5 million and below the said €5 million, where the securities offered are not admitted to trading on a regulated market. The content and filing requirements for a national prospectus are very similar to the requirements placed on a prospectus prepared pursuant to the EU Prospectus Directive and, hence, the administrative burden for companies whose securities are not traded on the main list is only slightly reduced. However, one should bear in mind that a large number of Finnish-listed companies fall under the EU Prospectus Directive’s definition of small and medium-sized enterprises or companies with reduced market capitalisation, and thus can choose to prepare a prospectus using a proportionate disclosure regime.
In addition to the SMA, the financial market regulation includes legislation on provision of investment services and on investment funds as well as on clearing and settlement, and on trading in financial instruments, among others. Almost all of these acts, including the SMA, allow for more detailed rules to be issued by the Council of State, the Ministry of Finance or the Finnish Financial Supervisory Authority (FIN-FSA). Pursuant to the SMA, the Ministry of Finance has issued decrees on, for example, prospectuses and takeover documents, and the FIN-FSA has issued regulations and guidelines on, for example, offering and listing of securities, and disclosure obligations.
The FIN-FSA and the operators in the Finnish securities markets are also subject to the guidance issued by the European Securities Markets Agency (ESMA) on the basis of the comply or explain principle. Accordingly, the FIN-FSA typically instructs its supervised entities to comply with the applicable ESMA guidance.
Netting is regulated mainly by two acts: the Act on Certain Provisions in Securities and Foreign Exchange Trading and Settlement System (749/2012), as amended, concerning, for example, netting of payments within the settlement system; and the Financial Collateral Act (11/2004), as amended, regulating the use of collateral rights (e.g., when securities are used as collateral and the party providing the collateral is an institution, such as a credit institution, as stipulated in the Act). Netting clauses in Finnish contracts are generally fairly standardised and compactly formulated. Most legal concerns relate to cross-border transactions, where the enforceability of a contractual netting clause may remain an unresolved issue.
Rules of the market places and self-regulationListed companies must adhere to specific rules of the Helsinki Stock Exchange, namely the rules of NASDAQ OMX Helsinki Ltd and the rules of the First North trading facility in the First North Rulebook. These rules include provisions on, among others, eligibility to be listed on the market, periodic reporting and insiders.
There is also significant self-regulation by different market participants and relevant associations and similar. For example, the Finnish Securities Markets Association has prepared a Helsinki Takeover Code addressing questions and practices related to
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the actions of both the bidder and the target company, as well as the management and shareholders of the target company, and it is relevant for all parties involved in a public takeover bid. The obligation to comply with the Takeover Code is based on the provisions of the SMA and the comply or explain principle. Hence, each takeover bidder must state whether it complies with the Code or alternatively give its reasoning on why it has decided to ignore the Code or parts of it.
The association also hosts the Takeover Board, which may issue recommendations providing direction for mergers and acquisitions. An application can be made to the Takeover Board for a statement regarding interpretation of the Helsinki Takeover Code, compliance with good securities markets practice as well as individual company law issues. The Board has not yet issued any particular recommendations supplementing the Code or providing comments on any other M&A-relevant issue in Finland.
The Finnish Securities Market Association published the new Finnish Corporate Governance Code in October 2015 and it will enter into force as of 1 January 2016 replacing the current code from 2010. The new Corporate Governance Code applies to companies listed on the Helsinki Stock Exchange main list, and it applies to these companies based on the ‘comply or explain’ principle. The new code aims to improve the transparency of corporate governance practices and principles of listed companies and to advance more uniform corporate governance reporting. The new code has been aligned with the European Commission’s Recommendation on corporate governance reporting of 2014.
ii Supervision of capital markets
The FIN-FSA is the supervisory authority for Finland’s financial and insurance sectors. The FIN-FSA operates in connection with the Bank of Finland but is independent in its decision-making. The entities supervised by the FIN-FSA include credit institutions, investment firms, fund management companies as well as insurance and pension companies, and other companies operating in the insurance sector, and operators of the financial markets infrastructure such as the Helsinki Stock Exchange. In addition, the FIN-FSA supervises and scrutinises Finnish-listed companies’ disclosure obligations, prospectus issues, takeover bids as well as market abuse situations. In addition to the FIN-FSA supervision, the Helsinki Stock Exchange supervises compliance with its rules and sanctions non-compliance. These sanctions include reprimands, fines or removal of the securities from trading, where the non-compliant party is a listed company or cancellation of the relevant status in the stock exchange where the non-compliant party is, for example, a certified adviser to a listed company.
The FIN-FSA has a central role in the supervision of the Finnish financial markets. Provisions on the FIN-FSA’s supervisory powers are for the most part laid down in the Act on the Financial Supervisory Authority (878/2008, as amended). The most relevant supervisory powers regarding the securities markets concern the right to obtain and inspect information, which includes, inter alia, the right to obtain information from the board of directors of a listed company notwithstanding any confidentiality provisions. In addition, regarding offerings, the FIN-FSA has the power to postpone an offer in a situation where the FIN-FSA has reasonable grounds to suspect that the offering to the public violates the SMA or regulations issued under it, to prohibit the continuation or repetition of prohibited marketing, and to impose a conditional fine, the purpose of which is to reinforce the above-mentioned measures.
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If evident harm has been caused to investors, the FIN-FSA may order the entity on which it has imposed the prohibition to amend or remedy its actions. For example, the FIN-FSA has, in a situation where the statutory information had not been provided in connection with the marketing of the offering, prohibited the continuation of the marketing and required that the statutory information and the option to cancel previous commitments be provided to the investors. Additionally, the FIN-FSA has previously imposed conditional fines to reinforce its decisions regarding prohibition and rectification. In addition, the FIN-FSA has the power to impose administrative sanctions such as administrative fines, public warnings and penalty payments.
iii Structure of the courts in Finland
The Finnish court system consists of three types of courts: general courts of law, administrative courts and special courts. Civil, criminal and petitionary matters are processed in the general courts of law, which include local district courts as the first instance, courts of appeal as the second instance and the Supreme Court as the final instance. Decisions of the district courts can be appealed in the courts of appeal, however, in minor disputes, a leave for continued hearing may be required. The decisions of courts of appeal can again be appealed in the Supreme Court, provided that a leave to appeal is granted (only approximately 9 per cent of appeals are granted leave).
Administrative courts include the administrative courts as the first instance and the Supreme Administrative Court as the last instance. Matters of administrative law, such as the activities of the authorities, for example, the FIN-FSA, and the administrative procedure, are processed in these courts. There are also four special courts in which specific types of issues are processed. For example, where an administrative sanction otherwise issued by the FIN-FSA would exceed €1 million, it will need to be issued by the Market Court.
The Finnish court procedure is centralised, ensuring that the judgment is based on facts presented to the court immediately before deciding the issue. There is also a preparatory session held before the actual trial. Furthermore, the court process is governed by certain other key principles such as the principle of oral hearings and the principle of immediacy, meaning all statements and evidence are presented to the same court and judges who ultimately decide the matter, as well as the principle of transparency, meaning the parties have the right to receive information, and the principle of contradiction (audiatur et altera pars), meaning the parties to a trial must have the opportunity to present their case in court.
II THE YEAR IN REVIEW
i Developments affecting the capital markets
Over the past 10 years, the number IPOs in Finland has been quite low. However, recent years have experienced somewhat of an upswing compared to zero listings on Helsinki stock exchanges in 2011 to three Main List listings in 2014 and six First North listings. Furthermore, during the first half of 2015 there have been three Main List listings and seven First North listings. The market value of the Helsinki Stock Exchange was around
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€168 billion in 2014: a slight increase compared with €117 billion in 2011, however significantly lower compared to 2007 when the market value was €252 billion.
In general, the equity capital markets continued their modest upswing during the start of 2015. To some extent, this may be explained by the lack of adequate returns in other markets, meaning that investments and available funds were directed to the equity market. Furthermore, the global financial crisis of 2008 led to stricter banking regulation, which in turn affected the availability of financing with good terms or at all for many companies. This has led them to seek other financing options outside direct bank financing.
In addition, the continued low interest rates have somewhat increased the interest in IPO transactions, making equity investments more attractive. While equity listings remained few compared to other Nordic countries in 2015, Finland’s equity markets’ relatively better performance compared to the rest of the developed world could indicate more equity offerings in the future. There is, indeed, an expectation of increase in deal activity for the remainder of the year. Unlike in Sweden where the expectation is that the recent IPO boom will normalise, Finland might still be facing an increase in volume of listings by the end of 2015.
ii The bond market
Following the trend in recent years in the growth and frequency of high-yield bonds, high-yield bond offerings increased in Finland during 2013 and 2014. The increased interest in bonds can be explained through large international investors returning to Europe with an appetite for higher yields, which the high-yield bonds especially may offer. Since there have been relatively few IPOs in Europe and particularly in Finland in past years, bond offerings especially in the industrial, retail and online trade sector gathered attention. Since the prevailing interest rates remain relatively low, issuers’ interest for refinancing has also increased. In these attractive market conditions a larger number of bonds have also been issued under Finnish law, although there has been somewhat lesser interest in bonds in the first half of 2015 compared to the recent active years.
Another recent key development in the bond market is that the major bond investors are no longer solely banks and other financial institutions. There has been a similar change in issuers. Previously issuers were mainly investment-grade companies, whereas recently covered bonds and bonds guaranteed by operational group companies have seen light. Up until now, the bond market has also mainly attracted only large companies. The elsewhere successful First North bond market has been launched in Finland by the Helsinki Stock Exchange, creating new opportunities to tap into external financing also for smaller companies and a trading platform for investors in such bond instruments.
The Confederation of Finnish Industries has led the work to develop and enhance the functionality of Finnish bond markets in cooperation with various market participants. This work has resulted, for instance, in the introduction of template bond terms. One of the common features in Finnish bond markets is the absence of agent or trustee representation of investors; investors are still represented through creditors’ meetings, which can be compared to general meetings of shareholders. However, work on new legislation concerning agents of bondholders has commenced in the Ministry of Finance and is estimated to be completed in 2016. In addition, there have been
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indications that further legislative proposals and action may also be introduced in the next few years to further develop the Finnish bond market.
Despite the overall increase in high-yield bond issuances and bond issuances, bank financing still remains the most important source of funding in Finland. However, the continued economic downturn has affected the amount of bank lending available and the terms and willingness of banks to provide financing to Finnish companies due to a depressed outlook, especially in certain commercial areas. Overall, Finland’s GDP has been steadily declining since the second half of 2012.
A recent positive sign has been the increase in venture capital funding as well as an increase in private equity transactions and greenfield investments in certain technology sectors. These could both be seen as manifestations of Finland’s attractiveness as an investment location.
Following the cautious recovery of the equity markets from 2012 onwards, the range of different types of equity investments and equity market-linked products continued to increase. The positive increase in the equity markets was also demonstrated by the amount of capital in various funds, which has increased rather steadily and was €94.2 billion in August 2015. Following this positive trend it may be that the general increase in funds available as well as the increased interest in stock markets due to largely positive gains could also lead to a further expansion of equity-linked structured products. The sharp fall in the stock prices in China in early autumn 2015 created heightened volatility in the stock markets globally and also affected share prices in Finland creating a level of uncertainty as to the future development of the market.
iii Cases and dispute settlement
There is rather limited legal precedent to guide the interpretation of the Finnish securities markets legislation and actions of the FIN-FSA in its supervisory tasks. However, in the past decade there have been a number of high-profile, alleged, white-collar securities fraud investigations and criminal procedures. Most of the cases in question were, however, extremely contentious with very case-specific details and facts. In many of these cases the first instances often found the defendants guilty, but almost equally as often these decisions were reversed at the appellate levels. As stated, the available precedent is rather limited but there is, indeed, some precedent guidance on insider trading issues as well as on prospectus and disclosure liability.
iv Relevant tax and insolvency law
Recent changes in the Finnish tax regime mirror the increasing competition for tax revenues and the economic downturn. The concern over losing tax revenues has driven Finland to safeguard its tax base more diligently. As of the beginning of 2014 the corporate income tax rate was lowered from 24.5 per cent to 20 per cent. After the drop, the Finnish corporate tax rate has been below the EU and European average. However, to compensate for the fall in corporate tax revenues, legislation was introduced restricting deductibility of interest expenses in order to dampen tax planning by Finnish companies financed by intra-group loans from their foreign group companies.
Former Finnish legislation allowed wide deductibility of interest expenses, which could be restricted only by applying the transfer pricing regulation or the general provision for tax avoidance. The limitations restrict the deductibility of the net interest
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expense (the amount of all interest expenses exceeding all interest income) to 25 per cent of the company’s fiscal EBITDA. The limitations are subject to certain safe haven clauses, and interest payments for third-party loans are not affected. However, third-party loans may be deemed as intra-group loans in situations such as back-to-back arrangements or when a related party has secured a third-party loan with collateral. The interest limitation rules have to be considered when arranging financing structures of Finnish entities.
Furthermore, a reform to dividend taxation of private individuals was introduced as of 2014. As a result, taxation of dividends received from listed companies tightened slightly, but the overall tax burden on dividend income will remain practically unchanged considering the lowered corporate tax rate. Taxation of dividends from unlisted companies was also amended, but, overall, the tax treatment of dividends distributed by unlisted companies still remains significantly more favourable than the tax treatment of dividends from listed companies. Moreover, as of 2014 repatriation of funds from non-restricted equity capital of listed companies is taxed as dividend income. Respectively, repatriations of funds to foreign shareholders may be subject to Finnish dividend withholding tax. The reform entails no incentives to new Finnish IPOs, even though the considerable differences in the tax treatment of dividends has evidently influenced companies’ willingness to go public in recent years.
Additionally, taxation of dividends received by companies was renewed as of 2014. The possibility to receive tax-exempt dividends from companies in the EU countries was expanded. On the other hand, dividend distributed by a listed entity is fully taxable in the hands of non-listed companies holding less than 10 per cent of the capital in the distributing company, as earlier only 75 per cent of the same dividend was taxable. The dividend taxation has also been tightened for the part of dividends received from a company tax resident outside the EEC.
Finland has decided not to join EU Member States planning to introduce the European Union financial transaction tax. The bank tax imposed on Finnish banks and their foreign subsidiaries to gather funds in case of future crashes in the financial market, originally intended to be applied during 2013–2015, was cancelled as of 1 January 2015. Owing to the introduction of the EU banking resolution regulation, the bank tax was replaced by the requirement to submit payments to the financial stability fund. Unlike the bank tax, payments to the financial stability fund are deductible.
Recently, the Finnish Supreme Administrative Court released certain capital markets related tax decisions, which have concerned, for example, the application of the new rules on deductibility of interest expenses (KHO 2015:11), taxation of management holding companies (KHO:2014:66), reclassification of hybrid loans (KHO:2014:119), listed warrants (KHO:2013:117), taxation of CSA agreements (KHO:2012:112) and tax treatment of prospectus fees in corporate restructurings (KHO:2013:68).
The 2015 Finnish parliamentary election was held in April 2015. At the end of May the new government reached agreement on the governmental programme, including a new tax policy framework for the following four years. The government’s tax policy aims to boost growth, entrepreneurship, work and employment. The current broad tax base policy and measures to combat tax avoidance coupled with low/moderate tax rates will continue. Taxation of earned income will not be increased. Reducing taxation of labour will support employment, economic growth and ensure increased purchasing power. The easing of taxation on labour will be funded by increasing excise duties, such
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as tobacco and waste tax. Based on the framework, the corporate income tax rate will be also maintained at a competitive level. The Finnish government will publish relevant government bills by the end of 2015, which will include specific tax changes based on the tax policy of the government.
III OUTLOOK AND CONCLUSIONS
The Finnish securities law framework is fully integrated with the mandatory EU laws. The next more significant legislative changes regard the application of the so-called Market Abuse Regulation (MAR) on 3 July 2016 and the implementation the Market Abuse Directive (MAD) by the same date. The MAR and MAD have implications for the SMA as well as for regulations and guidelines issued by the FIN-FSA. The MAR extends its scope from the regulated markets to multilateral trading facilities. The regulation presents minor changes to the prohibition of abuse of insider information and to the timing of disclosure of inside information and to the delay of disclosure. Furthermore, the amendment of the Transparency Directive has introduced a few changes to reporting requirements including the removal of the requirement to publish financial reports from the first and third quarter in respect of Main List companies.
Related to the capital markets, the Ministry of Finance has commenced a review of the need for domestic regulation of crowdfunding in Finland. The work has not yet resulted in a specific proposal for legislation. The Confederation of the Finnish Industries had led to efforts to enhance the Finnish bond market and availability of bond financing to Finnish businesses – small and large. This work is still to continue and the market participants also expect further legislative action in this respect in the future.
Recently, public discourse has been concerned with the diminishing appeal of the Helsinki Stock Exchange as a listing platform. The Finnish government and other interested parties have set up a number of working groups to propose various reforms in the tax, general securities markets and listing regimes, to increase the attractiveness of the regulated market, as well as private sector and consumer interest in listed securities as a savings and investment alternative. So far, very little has been done in this respect in addition to the many public policy statements. However, as noted above, the Finnish market has quite recently seen increased activity in IPOs, which is expected to continue through the year. Further, the European Commission completed a consultation on the review of the Prospectus Directive and the related regulation in the spring of 2015. A proposal for a revised directive is expected from the Commission later in 2015. Issues such as the administrative burden of the prospectus requirements on small and medium-sized companies and on already listed companies are of especial interest from the Finnish markets point of view.
All in all, interest in listings and offerings in the Helsinki Stock Exchange and the First North markets has continued to be fairly strong in the first half of 2015. Whether this trend will continue will significantly depend on the general economic development in Finland and on the availability of financing from alternative sources, especially the traditionally strong banking sector financing. The new government has declared a number of intended changes to the employment and tax legislation, for example, but the implementation of these changes will not take place until 2016 at the earliest.
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Chapter 9
FRANCE
Antoine Maffei and Olivier Hubert1
I INTRODUCTION
The legislation governing French capital markets is designed to promote a flexible framework for issuing or trading capital market products while providing a high degree of legal certainty together with a strong supervisory framework.
i Legislative framework
French securities legislation, together with its capital market legal framework, has experienced strong development in the context of both national and EU initiatives. The stock exchange is of course a key element of the French capital market infrastructure. Stock exchanges in France are operated by Euronext. Euronext is the result of the merger of the Amsterdam, Brussels and Paris exchanges in September 2000 and subsequently, in 2002, of the Portuguese exchange; Euronext also acquired Liffe in 2002. Subsequently, Euronext and the New York Stock Exchange were combined into a new entity called NYSE Euronext.
On 20 June 2014, following the acquisition of the NYSE Euronext group in November 2013, IntercontinentalExchange Group, Inc (ICE), successfully carried out an initial public offering (IPO) of Euronext NV, the Dutch parent company of Euronext continental cash and derivatives markets and of the British cash market Euronext London.
Within the framework of this transaction, ICE sold 33.36 per cent of the capital of Euronext to a group of Belgian, French, Dutch and Portuguese financial institutions, united by a shareholders’ agreement, who committed to hold their stake for three years. The remainder of the capital was placed with institutional and private investors as well as with Euronext employees, with ICE keeping a residual stake related to the over-allotment option granted to the transaction lead manager banks.
1 Antoine Maffei and Olivier Hubert are partners at De Pardieu Brocas Maffei.
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In February 2005, the Premier Marché, the Second Marché and Nouveau Marché of Euronext Paris were merged into a single regulated market called Eurolist, and an unregulated but structured market was created: Alternext.
All companies admitted on Eurolist are are automatically classified into one of three groups according to market capitalisation in Eurolist by Euronext. This classification allows investors to distinguish between companies with small, medium and large capitalisations: Segment A (market capitalisation higher than €1 billion), Segment B (market capitalisation between €150 million and €1 billion) and Segment C (market capitalisation lower than €150 million).
Enternext, a stock exchange dedicated to small and medium-sized enterprises (SMEs) was launched by Euronext on 23 May 2013. However, Enternext has not been free of criticism in the early stages of its development in view of its modest level of available resources in circumstances where only 1 per cent of SMEs are reported to resort to capital markets to meet their financing needs.
Over the past few years, many EU directives related to capital market transactions (the Takeover Directive, the Prospectus Directive, the Market Abuse Directive, the Transparency Directive) have been implemented under French law, in addition to the Markets in Financial Instruments Directive (MiFID), which came into effect on 1 November 2007 and to the EMIR and CRR Regulations.
ii Law governing the issuance of debt and equity interests
Several laws may be applicable to the issuance of debt and equity securities: the issuer’s own law applies to certain matters while another contract law may be applicable to the terms and conditions of the relevant securities or to the placement of such securities. If the securities are listed, the relevant stock market law may also be applicable.
A French court would apply the lex societatis with respect to the rights of the holders of equity securities. Capacity and authorities matters would also be governed by the lex societatis in respect of debt securities. Therefore the issuance of equity and debt securities by a French company would in this respect be governed by French law, and in particular by the French Commercial Code, the Monetary and Financial Code (M&FC) and the General Regulations of the AMF (RG-AMF).
Contractual terms of bonds are subject to party autonomy and if the transaction is international or cross-border, these may be governed by a foreign law chosen by the parties, subject to such provisions as may be mandatory from a French public policy perspective. Certain mandatory provisions of the French Commercial Code governing the issue of bonds do not apply to bond issues abroad by companies incorporated in France. These include the obligation of bondholders to be grouped automatically for the defence of their common interest in a masse with legal personality and certain provisions regarding posting of security in favour of bondholders.
As contemplated in Article 212-1 of the RG-AMF, before conducting a public offer of securities or seeking admission of securities to trading on a regulated market within the European Economic Area (EEA) and by extension in France, persons or entities making a public offer of securities need to prepare a draft prospectus and submit it for approval to the AMF or the competent supervisory authority of another Member State of the European Community or a state party to the EEA agreement.
Where the French Financial Market Authority (AMF) is not the competent authority to approve the prospectus, the supervisory authority that approved the
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prospectus will send the AMF2 the certificate of approval and a copy of the prospectus, together with a French translation of the summary note, where appropriate.3 Dispatch of that certificate to the AMF will be made at the request of the persons or entities seeking to offer securities to the public or have securities admitted to trading on a regulated market in France.
A French issuer seeking admission of securities outside of the EEA, however, would not be required to obtain such approval from the AMF or from the competent supervisory authority of another EEA Member State where no offer to the public is contemplated in France or other EEA Member States.
iii The AMF
The AMF was created by Law No. 2003-706 dated 1 August 2003. The general legal framework for securities offering and sale and subscription of securities traded on a stock market is enshrined in the M&FC, the RG-AMF and related implementing instructions. European regulations, and in particular Regulation (EC) No. 809/2004 (amended by Delegated Regulation (EC) No. 862/2012 of 4 June 2012) implementing Directive 2003/71/EC (the Prospectus Directive), are also part of the French legal corpus regarding capital market transactions since they apply directly in France. The amendment of the Prospectus Directive contemplated by Directive 2010/73/EC of 24 November 2010 has been transposed into the M&FC by Ordinance No. 2012-1240 of 8 November 2012.
The AMF is divided into two bodies: a board and an enforcement committee, which operate separately and independently from one another. The board sets AMF policy and supervises its oversight function. It also acts as regulator and approves any amendment to the RG-AMF. In cases of infringement of the provision of the M&FC or of the RG-AMF the Secretary General of the AMF directs controls and investigations. At the end of this initial inquiry phase the board opens a sanction procedure and may submit the grievances to the enforcement committee. Following an investigation procedure led by the enforcement committee, the latter may impose sanctions.
According to Article L621-15 of the M&FC, the enforcement committee may impose sanctions against the professionals controlled by the AMF, the individuals under the supervision of these professionals or other persons acting on their own.
Appeals against decisions of the sanction committee are heard by the Paris Court of Appeal, except for sanctions of an administrative nature concerning regulated firms or individuals (credit institutions, investment firms, direct marketers, investment advisers, custodians, members of regulated markets, etc.), which are heard by the Council of State.4 The commercial courts retain jurisdiction for cases that are not under the supervision of the AMF, and litigation before the commercial courts represents a large proportion of the decisions relating to the financial markets.
The four roles entrusted to the AMF (regulation, authorisation, supervision and enforcement) place that authority at the core of the French financial regulatory system. The AMF sets the principles of organisation and operation applicable to market
2 Article 212-40 to 212-42 of the RG-AMF.3 Article 212-3 of the RG-AMF.4 The highest administrative jurisdiction.
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operators, such as Euronext Paris; it authorises the creation of open-end and closed-end funds; it regulates corporate finance activities and disclosures by listed companies. It also extends visas for issues of debt and equity securities offered to the public or to be traded on an exchange.
In addition, an AMF ombudsman, who provides assistance to non-professional investors (consumers and non-profit associations), has been established along the same lines as the Swedish ombudsman model.
The creation of an AMF vested with strong regulatory supervisory and enforcement authority was aimed at strengthening protection of investors. In this regard, several decisions of the Supreme Court during the past years have endorsed this position5 and have strengthened the advisory duties of the banks to inform clients of the risks linked to financial products. The relevant obligation consists not only in informing the client, but also in assessing the client’s ability to properly understand the nature of speculative operations under consideration.
In the interests of transparency, the duties of the banks have been increased, the general perception being that this is also justified by the current market environment and the atmosphere of uncertainty produced by the 2008 financial crisis. Like other countries, France implemented an institutional reform of its financial supervision system in 2008, with Law No. 2008-776 published on 4 August 2008, and subsequently implemented the various European directives reforming the European financial framework.
The former banking supervisors, investment supervisors and insurance supervisor were merged into the Prudential Control Authority (ACP), established by Law No. 2010-76 of 21 January 2010. The ACP shares supervisory authority over investment firms with the AMF. This authority was renamed the Prudential Control and Resolution Authority (ACPR) following the entry into force of Law No. 2013-672 of 26 July 2013, which broadened the range of the duties of the ACP, entrusting the French banking regulator with the duty of supervising and implementing measures for the prevention and resolution of banking crises.
iv The crowdfunding legislative framework
The French government has promoted crowdfunding by setting up a new legal and regulatory framework (which derogates to the banking monopoly and the public offering rules).
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
The outcome of the financial crisis and the shortage in bank loans meant that the past few years have seen a proliferation of legislation and regulation affecting debt and equity offerings.
5 See in this respect on www.dalloz.fr: C. cass, Ch.com., 13 December 2011, 11-11.934; C. cass., Ch com., 13 September 2011, 10-199.07; C. cass., Ch. civ., 15 February 2011, 10-12.185; C. cass, Ch. Com., 17 May 2011, 10-30.650; C. cass, Ch. Com., 3 May 2011, 10-14.865.
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Euro private placementsA Euro private placement (Euro PP) is defined as a medium- or long-term financing transaction between a listed or unlisted company and a limited number of institutional investors, based on deal-specific documentation negotiated between the borrower and the investors, generally with the participation of an arranger.
A Charter for Euro PP (the Charter) was published in March 2014 by several professional associations (including the AMAFI (Association française des marchés financiers), the AFTE (Association française des trésoriers d’entreprises) and the Af2i (Association française des investisseurs institutionnels). The purpose of this industry guidance document, which is the result of cross-market work carried out by various actors (issuers, intermediaries and investors), is to produce a documentation basis for developing Euro PPs and creating a benchmark market for them, both in France and internationally. It is built on existing practices in the bond and bank loan markets, as well as practices in other international private placement markets.
In January 2015 the same professional associations published two templates for a Euro PP document: one under a loan format and one under a bond format.
Negotiation of contractual terms and conditions is an important feature of Euro PP transactions; it distinguishes them from public and syndicated bond issues, such as Eurobond issues where investors merely subscribe an issue without having any say in the terms and conditions. For this reason, the process for carrying out a Euro PP transaction more closely resembles negotiating a bank loan agreement than preparing the documentation for an issue of listed bonds.
A Euro PP may take the form of a bond issue or a loan.Since 2012 approximately €12 billion has been raised by French unrated
medium-sized companies to develop their activities within the frame of Euro PPs.
CrowdfundingCrowdfunding has emerged as a new way to obtain loans or to issue equity or bonds securities through electronic platforms. The AMF and the ACPR published in May 2012 a guide addressing the current legal regime for ‘crowdfunding’ activities in France. The AMF and the ACP identified in this guide three types of crowdfunding activities and made each of them subject to specific regulations. Crowdfunding activities similar to gifts or donations and crowdfunding activities based on loans, which fall within the scope of French banking regulations (French banking monopoly), while debt-based and equity-based crowdfunding activities will fall within the scope of French public-offering rules and regulations regarding the provision of investment services.
On 30 May 2014 the French government issued Ordinance No. 2014-559 relating to crowdfunding (the Crowdfunding Ordinance) with a view to promoting crowdfunding activities in France and to address some of the regulatory constraints that could prevent the developments of such activities.
As far as debt-based and equity-based crowdfunding activities are concerned, the Crowdfuding Ordinance create a new status of conseiller en investissements participatifs (CIP, adviser in crowdfunding) defined as legal entities whose main activities consist in providing on a regular basis the investment service of investment advice in respect of offer of equities and debt securities exclusively by way of an internet website.
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Persons wishing to obtain CIP status will have to comply with certain rules of good conduct and register with the Organisation for the Register of Insurance Intermediaries (ORIAS).
In addition, the Crowdfunding Ordinance relaxes public offering rules by providing a new exemption to prospectus publications for securities offering on a crowdfunding platform. The conditions to be met to benefit from such exemption are the following:a the securities offered are not admitted to the negotiation on a regulated market or
on a multilateral trading facility (MTF);b the securities are proposed by the intermediary of an investment services provider
or a CIP by way of an internet website meeting certain conditions to be specified the RG-AMF; and
c the amount of the offer (calculated based on a 12-month period) is inferior to a certain amount to be specified by decree.
Those measures came into effect on 1 October 2014 pursuant to Decree 2014-1053 dated 16 September 2014 and to an amendment to the RG-AMF dated 22 September 2014.
Guidelines regarding preparation of prospectusesIn September 2013 the AMF published guidelines governing the preparation of bond prospectuses and related approval procedures, and on marketing materials relating to complex debt securities. Through these guidelines the AMF aims to increase issuers’ responsibilities and address practices in breach of applicable regulations; it aims to improve investor information and, as a result, the transparency of transactions.
The guidelines seek to streamline and simplify bond prospectuses, in the form of either a stand-alone or a base prospectus, both of which require AMF approval. Furthermore, the approval procedures have been simplified, particularly in terms of language requirements and review times, highlighting the AMF’s determination to respond to bond market needs.6 The same concerns apply to all bond issues in Europe and the AMF does not add any requirements other than those reflected in the Prospectus Directive.
The regulatory prospectus approval deadline provided for in the Prospectus Directive, and which has been transposed into the AMF General Regulation, is 10 working days. In general, whenever a draft stand-alone or base prospectus is submitted, the AMF will send an acknowledgement of receipt to the issuer if the file is complete. It will then issue its decision on whether to approve the prospectus within 10 days of issuing the acknowledgement of receipt. The deadline is reduced to five working days for issuers that have already provided comprehensive information by way of a registration document filed with the AMF.7
On 4 February 2013 the AMF issued Position No. 2013-03 specifying the information to be given to the market by an issuer that issues shares or securities giving access to its capital in the absence of publication of a prospectus. To ensure
6 www.amf-france.org/documents/general/9132_1.pdf.7 Ibid.
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investors access to an equivalent level of information, the AMF restates, in Position No. 2013-03, the minimum information that must be included in releases announcing these operations. This information specifies the nature of the operation, the type of offer, its legal framework, the amount and the reasons for the issue. This Position applies to issues open to the public while not constituting public offers (of an amount less than €5 million and not representing more than 50 per cent of the capital of the relevant issuer). It also applies to private placements.
On 6 December 2012 the AMF issued position-recommendation No. 2012-18 relating to the information to be provided to the market in the event of equity lines or step-up equity financing (i.e., financial arrangements that consist of capital increases split into several tranches over time). The AMF provides in the position-recommendation additional information on the type of information to be disclosed to the market when entering into an equity line financing arrangement and this disclosure requirement applies throughout the entire term of that arrangement.
Euronext private placement bondsIn March 2015 Euronext launched a new type of listing named Euronext private placement bonds which primarily targets small and medium-sized companies wishing to diversify their source of funding by listing their private placement bonds issues on Alternext. For such purpose, a modification of the rules of Alternext regarding private placement of debt securities was therefore approved by the AMF by a decision of 17 February 2015.
Under the modified rules, issuers that have completed a private placement of debt securities with a denomination of at least €100,000 and have applied for a first admission to trading of the relevant debt securities subject to such private placement on an Alternext market are not required to publish an annual report or to appoint a listing sponsor.
The purpose of this modification is to offer on the French market a fast, simple and standardised procedure allowing SMEs to list their private placement issues.
Modification of the private placement regimeWithin the framework of the implementation into French law of the revised Prospectus Directive by Ordinance No. 2012-1240 of 8 November 2012 and Decree No. 2012-1242 and Decree No. 2012-1243 also of 8 November 2012 the definition of qualified investors was aligned with the definition of the professional client provided under MiFID. As a result, the register of qualified investors that was maintained by the AMF has been abrogated as of 10 November 2012.
Modernisation of securities lawFrance was the first country to have introduced mandatory and general dematerialisation of securities as early as 1984. In view of ongoing initiatives in Europe aimed at strengthening integration of securities markets and at adopting a common approach to securities law, Ordinance No. 2009-15 was published on 8 January 2009 (the 2009 Ordinance). Through the enactment of this reform the French legislature sought to modernise French securities law and reinforce its attractiveness, competitiveness and security.
Dispositions on transfers of ownership, pledges, repurchased transactions, securities loans and security for financial obligations are brought together in Book
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II, Title I, Chapter I. A distinction is now made in respect of financial instruments between securities (including both equity and debt instruments issued by stock companies, together with participations in collective investment undertakings, all of which are susceptible to being credited to a securities account) and financial contracts (which correspond in essence to derivatives and forward financial instruments). Key modifications focus on strengthening ownership rights over securities credited to a securities account and protecting bona fide acquirers of securities. Provisions governing close-out netting previously incorporated in Article L431-7 and following the M&FC have also been incorporated in the same legal body. These provisions are now covered by Article L211-36 to L211-40 of the M&FC (Netting Law).
Regarding shareholders’ voting rights it should be noted that double voting rights have been attributed to shares traded on a negotiated market by Law No. 2014-384 of 29 March 2014 (Loi Florange) whose aim is to foster long-term investments and shareholdings in France companies. These double voting rights are automatically attributed to shareholders holding nominative shares (i.e., registered in their name) for two years; however, such right may be defeated by a specific provision of the relevant company’s articles of association if adopted after the enactment of the above-mentioned Loi Florange.
In respect of transparency requirement, the requirement to publish quarterly financial information imposed upon corporation whose shares are traded on a regulated market was abolished by Law No. 2014-1662 of 30 December 2014, which transposed the revised Transparency Directive 2013/50/EU into French law.
Identification of bondholders process has been streamlined by an Ordinance of 31 July 2014. This Ordinance amending the Commercial Code allows issuers to identify bondholders in the same manner as shareholders upon request of the relevant information to central depositories. The issuer may not share this information with third parties.
Certain legal and regulatory provisions relating to takeover bids have been amended by the Law of 29 March 2014 in order to protect minority shareholders against ‘creeping’ takeovers and to ensure that employees of the target company have the right to information regarding any such takeover. These rules entered into force in July 2014.
Constitution of BpifranceBpifrance, a new French public investment bank, was created by Law No. 2012-1557 dated 31 December 2012. The role of the newly created entity is to finance (through loan and equity facilities) the industrial sector, very small enterprises, small and medium enterprises and medium-sized enterprises with enhanced efficiency, through concentration of all resources together in a single institution. To that end, Bpifrance, owned equally by the State and the Caisse des Dépôts et Consignations, merges the existing public entities OSEO, CDC Entreprises, FSI and FSI Régions together into one institution.
Market abuseUnder the Banking Reform, the offences of insider dealing, market manipulation and dissemination of false or misleading information are extended to cover transactions entered into a multilateral trading facility. The Banking Reform also broadens the definition of market manipulation to expose to AMF prosecution persons attempting to manipulate the prices of commodities through the use of financial instruments.
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Remuneration policiesThe Banking Reform specifies that the general meeting of shareholders of credit institutions and investment firms (other than portfolio management companies) must be consulted on an annual basis on the overall envelope of compensation paid to senior managers and to certain categories of employees that include risk-takers and persons exercising compliance functions, as well as certain employees whose activities have a significant impact on the risk profile of such entities.
Enlargement of the powers for the ACPR and of the AMFPursuant to the Banking Reform, the ACPR has been entrusted with the powers of resolution authority and the scope of its powers and duties has been enlarged accordingly. Among its enlarged powers, the ACPR has the power to order the transfer all or a portion of credits or deposits of a credit institution if the solvency or liquidity of an institution subject to its authority, or the interest of clients insured, or its members are in jeopardy or are susceptible to being in jeopardy.
The investigative and supervisory powers of the AMF and the ACPR have been strengthened through various measures, including the authority to require documents and information from the entities subject to their supervision to ensure the performance of their mission of monitoring and supervision.
Separation of own account transactions from core activities of banks and investment firms dedicated to financing the economyThe Banking Reform states that, as a matter of principle, French credit institutions, financial and mixed financial companies are prohibited from carrying out the following activities other than through a dedicated subsidiary if relevant transactions would exceed exposure thresholds set by decree of the Minister of the Economy:a trading on financial instruments by the aforementioned entities for their own
accounts, with the exception of the following activities:• provision of investment services to clients;• clearing of financial instruments;• hedging of risks incurred by the credit institution or its group within the
meaning of Article L511-20 of the M&FC (excluding hedging risks incurred by the dedicated subsidiary);
• market making activities;• the sound and prudent management of the treasury of the group, and financial
transactions between credit institutions, financial and mixed financial companies, on the one hand, and their subsidiaries belonging to the same group (as defined by Article L511-20 of the M&FC) on the other hand;
• the operations of investment of the group within the meaning of Article L511-20 of the M&FC; and
• any unsecured transaction entered into by the credit institution for its own account with (1) leveraged collective investment schemes, (2) similar investment vehicles or (3) collective investment schemes themselves invested or exposed to the vehicles defined in (1) and (2) above, when such investments or exposures exceed thresholds to be determined by the Ministry of Economy.
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The Banking Reform further specifies the scope of the aforementioned exemptions (definition of investment services, risk hedging, market making activities, etc.).
The dedicated subsidiary that may be constituted by the credit institution to perform the aforementioned trading activities must be licensed as an investment firm or credit institution, and is not authorised to receive deposits from the public that benefit from the deposit guarantee scheme, nor to provide payment services to clients. The Banking Reform also specifies, inter alia, that the trading subsidiary must comply with prudential ratios on an individual (or sub-consolidated) basis and that the parent credit institution (or financial and mixed financial company) must obtain the prior authorisation of the ACPR before subscribing to a share capital increase of the trading subsidiary.
The trading subsidiaries are prevented from carrying out:a high-frequency trading subject to tax under Article 235-ter ZD of the General
Tax Code; andb transactions on financial instruments using, as underlying assets, an agricultural
commodity.
Both the trading subsidiaries and their parent companies must set objectives and limits and adopt organisation rules, rules of conduct and other professional conduct rules allowing them to comply with the aforementioned requirements.
The Banking Reform states that the credit institutions are required to identify, at the latest on 1 July 2014, the activities to be transferred to the trading subsidiary, and then to transfer such activities to the trading subsidiary by 1 July 2015.
The Banking Reform provides that the transfer to the dedicated trading subsidiary will not trigger any termination or modification in any other contract to which the above institutions are a party.
While the Banking Reform is inspired by the Liikanen Report, it diverges from the conclusion of that report in some key areas, including, inter alia, going as far as the exclusion of market making activities, which is perceived as a key tool to facilitate access to liquidity.
New regime for the resolution and the recovery of credit institutionsThe Banking Reform states that credit institutions and investments firms (other than portfolio management companies) whose balance sheets exceed a threshold set by decree, which are not subject to consolidated supervision, are required to prepare and submit to the ACPR a preventive plan, contemplating various potential recovery modalities in the event of occurrence of significant impairment of their financial situation.
The ACPR must also adopt for credit institutions and investment firms (other than portfolio management companies) whose balance sheets exceed a threshold set by decree a preventive recovery plan including specific recovery measures to be taken.
Where the relevant institution is found to be in default or where it is determined that a default may not be avoided within a reasonable time frame, the resolution committee of the ACPR may take one or more measures against such an institution. A default situation occurs where the institution:a does not comply with own funds ratio requirements;b is unable to meet its payment obligations immediately or within the immediate
future; andc needs exceptional public support.
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The recovery measures that may taken by the resolution committee of the ACPR are notably the following:a the requirement of any person subject to ACPR control of such an institution to
provide such information as may be deemed necessary by the ACPR to decide the adoption of resolution measures including updating and supplementing of information made available in respect of living wills;
b the appointment of a provisional administrator;c the dismissal of the senior managers of the institution subject to resolution;d the transfer or mandatory assignment of one or more business units;e the recourse to a bridge institution that is due to receive on a provisional basis
all or part of the assets of the institution subject to resolution with a view to disposing of the same under conditions set by the ACPR;
f to cause the deposit and resolution guarantee fund to intervene while ensuring that no contagion effect results from the resolution to other participants of the deposit and resolution guarantee fund;
g to transfer to the deposit and resolution guarantee fund or to a bridge institution the shares of the entity subject to resolution;
h to depreciate, cancel or convert capital and other liabilities to absorb losses in accordance with the following order of priority:• shares or securities evidencing a proportion of equity capital;• subordinated debt and other low-ranking instruments where issue conditions
contemplate absorption of losses, those instruments being either depreciated, cancelled, or converted up to the losses incurred; and
• other obligations, the terms of issue of which contemplate reimbursement in the event of liquidation only following satisfaction of secured and unsecured obligations such obligations being either depreciated, cancelled or converted up to the losses incurred. Losses are applied pro rata among creditors benefiting from the same order of priority by application to the principal amount or to the outstanding amounts that have matured pro rata to their value;
i to require the institution subject to resolution to issue new share capital or other title instruments or equity instruments, including preference shares or conditional convertible instruments;
j to compel the entity under resolution to issue new shares or other equity-own fund instruments;
k to issue within a time frame set by decree a prohibition on making any payment on account of liabilities subject to depreciation, cancellation or conversion into capital to absorb losses and arising prior to the ACPR decision; this prohibition shall apply notwithstanding any legislation to the contrary;
l to limit or prohibit the carrying out of certain transactions by the institution under resolution;
m to limit or prohibit distribution of dividends; andn to suspend the exercise of termination and close remedies under contracts
governed by Article 211-36-1 of the M&FC in respect of all or part of the relevant contract concluded with the entity under resolution until 5pm on the business day following publication of the ACPR decision under conditions set by decree.
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The ACPR is under the duty to ensure that no shareholder or creditor incurs losses in excess of those that would be incurred under a judicial liquidation proceeding.
The preventive plan or the preventive recovery plan is adopted on a consolidated basis if the group is subject to consolidated supervision.
On 14 August 2015 an ordinance from the government transposed into French law the provisions of the Banking Resolution and Recovery Directive (BRRD). This includes in particular provisions regarding bail-in of financial institutions.
Tax on financial transactionsBy an amending budget law of 14 March 2012, as further amended by law dated 16 August 2012, a 0.2 per cent transfer tax has been introduced on the acquisition of certain equity capital securities and assimilated securities. That tax applies also to cancellation of certain high-frequency trades and to acquisition of certain credit default swaps concerning an EU Member State default.
From 1 August 2012, transfers of equity securities (or assimilated securities) issued by French listed companies whose market capitalisation exceeds €1 billion on 1 January of the year will be subject to a 0.2 per cent tax.
The transfers in question are all transfers against consideration (acquisitions, exchanges, etc.), excluding the allocation of shares upon capital increase of the issuer, transfers made in the context of execution of liquidity arrangements, transfers made between members of the same group, transfers made via a clearing house or a central depository and certain temporary transfers of securities.
Bonds (convertible or exchangeable as the case may be) are not assimilated to equity securities.
A ministerial decree will summarise the list of companies concerned.The tax will be due by the person executing the transfer order on the first day of
the month following each transfer.At European level, and upon the request of 11 Member States, the Commission
adopted on 14 February 2013 a proposal providing that all transactions with an established link to the financial transaction tax (FTT) zone will be taxed at the rates of 0.1 per cent for shares and bonds and 0.01 per cent for derivatives. Such tax would deeply affect high-frequency trading, as well as the activities of hedge funds, market makers and the repo market. However, recent public policy statements made by the Minister of Finance seem to suggest that the French government may consider stepping back on this issue.
Governance of credit institutions and investment firmssOrdinance 2014-158 of 20 February 2014, which implements CRD IV under French law, extended the specific requirements of availability, competency and integrity applying to individuals who are effectively managing a credit institution (the dirigeants effectifs), to all members of the boards of directors or the supervisory board of the credit institution or investment firm. The ACPR is authorised to oppose where necessary the appointment of members of the board of directors, in case they do not meet the aforementioned availability, competency and integrity criteria.
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Settlement periodsIn order to implement the provisions of the Regulation (EU) No. 909/2014 of the European Parliament and of the Council of 23 July 2014 introducing improvements of securities settlement in the European Union and on central securities depositories, the provisions of the RG-AMF were modified by an Order of 15 September 2014, which provides that the settlement date for transactions in transferable securities which are executed on regulated markets and MTFs shall be no later than on the second business day after the trading takes place (T+2).
ii Developments affecting derivatives, securitisations and other structured products
Derivatives and the Netting LawThe French netting regime of derivatives (the Netting Law) is governed by the provisions of Article L211-36 to L211-40 of the M&FC, which transposed into French law the EU Collateral Directive as amended. It is applicable, inter alia, to financial obligations resulting either from transactions on financial instruments (within the meaning of Article L211-1-I and Article D211-1A of the M&FC), if only one of the parties to the transactions is a qualifying party, or from any contract giving rise to cash settlement or to delivery of financial instruments, if both parties to the contract are qualifying parties.8
As far as transactions on financial instruments are concerned, Article L211-1 of the M&FC defines financial instruments, which include:a financial securities, including:
• shares and other securities issued by stock companies;• debt instruments, other than payment instruments and loan notes); and• units or shares in collective investment undertakings); and
b financial contracts, also known as forward financial instruments, which are further defined in Article D211-1-A of the M&FC.9
If both parties are qualifying parties under the Netting Law, the scope of qualifying transactions is wide, as the Netting Law includes in such cases financial obligations that result from any contract giving rise to cash settlement or to delivery of financial instruments. Accordingly, all financial obligations resulting from transactions on financial instruments are included in the scope of qualifying transactions.
Financial instruments (financial securities and contracts as defined by Article L211-1-I of the M&FC) may only be issued by the state, a legal entity, a mutual fund, a
8 Transactions fall in the scope of Article L211-36-1 of the M&FC if at least one of the parties to such transactions is a party referred to in Article L211-36-1 of the M&FC (each, a ‘qualifying party’): (1) a credit institution; (2) an investment services provider; (3) a public establishment; (4) a local authority; (5) an institution, firm or an establishment referred to in Article L531-2 of the M&FC; (6) a clearing house; (7) a non-resident establishment with a comparable status; or (8) an international financial organisation or body of which France or the European Union is a member.
9 Which, in essence transposes into French law the provisions of Annex I, Section C of MiFID.
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real estate investment fund or a mutual securitisation fund. Forward financial instruments are further defined in Article D211-1A of the M&FC.
Article L211-36-II of the M&FC extends the scope of application of the Netting Law to instruments that may not fall within the scope of the definition of financial instruments under MiFID10 and Commission Regulation EC 2006/73 of 10 August 2006 implementing MiFID. Article L211-36-II of the M&FC provides indeed that for the sole purposes of Article L211-36 et seq. of the M&FC (i.e., the Netting Law), options, futures, swaps and any forward contracts other than those mentioned in Article L211-1-III of the M&FC (i.e., MiFID-qualifying forward financial instruments) are considered as forward financial instruments provided that they give rise, in the context of trading, to registration by a recognised clearing house or to periodical margin claims.
It should be noted that the Banking Reform contemplates that when exercising its rights available under the resolution tools vested in the ACPR it may order the transfer of one or more business units by operation of law under the regime of universal transfer of patrimony to a third party, or of assets rights and obligations to a bridge institution. It is specified that notwithstanding any legal or contractual provision to the contrary, contracts related to transferred activities are continued and no termination or set-off may occur solely as a result of such transfer or assignment.
It is further specified that transactions governed by contracts covered by Article L211-36-1 of the M&FC (which covers transactions on financial instruments including derivatives, and also repos and securities lending transactions) when transferred under the resolution tool regime to a third party or to a bridge institution may only be transferred as a whole. Termination rights (close-out netting) may not be exercised solely on the ground that a resolution measure has been exercised unless a transfer pursuant to the exercise of the resolution powers does not cover such contracts. Furthermore, in the exercise of its resolution authority, the ACPR may elect to suspend the exercise of termination and close remedies under contracts governed by L211-36-1 M&FC in respect of all or part of the relevant contract concluded with the entity under resolution until 5pm on the business day following publication of the ACPR.
When contracts have been transferred as stated above within the scope of the exercise by the ACPR of its resolution authority, this would, in our view, permit the exercise of termination rights post-transfer in the event of the occurrence of a post-transfer default.
Arrangements are also contemplated to ensure that such transfer may not affect the operation of systems governed by Article L330-1 and following the M&FC (covering interbank payment systems and DVP designated systems where only part but not all assets, rights and obligations are so transferred to another person).
Implementation of EMIRIn 2012, Regulation (EU) No. 648/2012 of the European Parliament and of the Council of 4 July 2012 on over-the-counter (OTC) derivatives, central counterparties (CCPs)
10 As such instruments do not fall within the scope of application of MiFID, they cannot benefit from the provisions of MiFID relating to the ‘European passport’.
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and trade repositories (EMIR) was published. EMIR affects all entities active in the EU derivatives market whether they use derivatives for trading purposes, to hedge themselves against a particular risk or as part of their investment strategy.
EMIR imposes three main obligations on market participants:a the clearing via a CCP of certain OTC derivatives entered into between certain
market participants;b a reporting of all derivative transactions to a trade repository that were entered
into since, or that were outstanding on, 16 August 2012; and c subjecting OTC derivatives which are not cleared via a CCP to risk mitigation
obligations which include in particular the timely confirmation of transactions, performing daily mark-to-market valuations of transactions, having dispute resolution processes in place, engaging in portfolio reconciliation, considering portfolio compression and exchanging collateral.
The two main aspects of EMIR yet to be implemented are mandatory central clearing and exchange of collateral.
Mandatory central clearing is a risk-mitigation technique. When a contract is ‘cleared’, a CCP is interposed between the two parties to an OTC derivative contract. The aim of clearing is to promote financial stability by reducing counterparty credit risk (as parties become exposed to the CCP’s credit risk instead of each other’s) and operational burdens, as well as increasing transparency and standardising the default management process. The clearing obligation under EMIR will only apply if the relevant OTC derivative is of a class that has been declared subject to the clearing obligation by the European Commission and the European Securities and Markets Authority (ESMA) and entered into between any combination of financial counterparties (FCs) and non-financial counterparties (NFCs) that are above certain thresholds (NFC+s) (or certain entities established outside the EU that would be an FC or NFC+ if they were established in the EU).
Interest rate derivatives are expected to be the first asset class that will be subject to mandatory clearing under EMIR as a final form of the interest rate implementing legislation (RTS) was submitted by ESMA to the European Commission in October 2014. However, market participants voiced concerns, particularly with respect to frontloading.
Obligations de financement de l’habitatObligations de financement de l’habitat constitute a new type of covered bonds (similar to the German Pfandbriefe) introduced under French Law No. 2010-1249 of 22 October 2010 relating to banking and financial regulations. This new type of financial instrument is an example of the modernisation of French financial and banking regulations. It puts the finishing touches to the French financial reforms by creating, alongside the obligations foncières (which constitute the classic French covered bonds), a highly secured financial instrument. These bonds are intended to allow credit institutions to refinance mortgage-backed housing loans. They are inspired by traditional covered bonds and will be issued by credit institutions registered as sociétés de financement de l’habitat (SFH), and are designed as an additional tool facilitating access to liquidity. According to Article L513-30 of M&FC the obligations de financement de l’habitat benefit from a super-priority lien.
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Hence, SFHs may issue bonds benefiting from the statutory super-priority lien regime available to covered bonds, and grant to any credit institution loans secured by an assignment of, or pledge over, residential housing loans secured by a first-ranking mortgage or a surety issued by a credit institution or an insurance company. They may also acquire promissory notes issued by a credit institution as provided by Articles L313-43 to L313-48 of the M&FC and which, by derogation, may use residential housing loans as collateral or grant residential housing loans secured by a first-ranking mortgage or a surety issued by a credit institution or an insurance company.
It is expected that obligations de financement de l’habitat will have a beneficial effect on credit supplies to households.
FiducieIn 2007, France adopted its own trust (fiducie) regime, introducing into the French legal corpus the equivalent of the common law trust. This regime has already been modified to widen its scope and clarify its effects in the event of insolvency proceedings.
This form of trust can be used to create security over assets, but may also be used to manage assets for a purpose defined in the fiduciary contract. For instance, in the context of mergers and acquisitions, because of its ability to isolate assets, it can be used to hold the shares of a company during the period when an acquisition has not yet been finalised or has been challenged by a contrary decision of the various authorities potentially involved in the transaction, chiefly the antitrust authorities, but also authorities that hold pre-emptive rights allowing them to acquire, with priority, certain assets (particularly real estate assets) or that are more generally likely to oppose or prohibit the transaction.
Securisation through loan funds for the economyTo promote financing of unlisted companies (in particular very small, small and medium-sized enterprises) Decree No. 2013-717 of 2 August 2013 modifies the list of admissible assets to cover regulated liabilities of insurance companies, as well as the rules on the diversification of investments and limitation by categories of investment. In particular, such regulations are made more flexible to authorise more widely the insurance companies to extend loans to non-listed companies, directly or indirectly by investing in ‘loan funds to the economy’. Such investment funds qualify either as French securitisation funds or specialised professional investment funds meeting certain conditions.
Securitisation and ‘skin-in-the-game’ ruleIn the wake of the 2008 financial crisis, regulations regarding the calculation of capital requirements of credit institutions and investment firms have been amended to include a 5 per cent retention requirement for originators of securitisations.
This retention requirement, often referred to as ‘the skin-in-the-game rule’ is set out in two separate sets of amendments to the Capital Requirement Directive (referred to as CRD II and CRD III and transposed under French banking regulations by way of an amendment to the Order dated 20 February 2007, which became effective on 30 December 2010 (the 2007 Order)).
The key provisions are embodied in Articles 210 to 218 of the 2007 Order. Under such provisions, a bank will only be allowed to apply the securitisation framework to
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a securitisation position acquired by it if the originator, sponsor or original lender discloses that it will retain, on an ongoing basis, a material net economic interest in the securitisation of no less than 5 per cent.
However, these rules are replaced by the CRD IV package, which is split into a Directive (Capital Requirement Directive IV (the CRD IV Directive)) and a Regulation (Capital Requirement Regulation (CRR)), which entered into force on 28 June 2013. It became applicable as of 1 January 2014. The CRD IV addresses matters such as liquidity standards and insufficient capital levels, both in quantity and in quality. It lays down stronger prudential requirements for banks, requiring them to keep sufficient capital reserves and liquidity. It also contains specific mandates for the European Banking Authority (EBA) to develop Binding Technical Standards (BTS), guidelines and recommendations that will form part of the Single Rulebook.
Therefore, the retention obligation by the originator, sponsor or an original lender of a 5 per cent stake is a material consideration for institutions resorting to securitisation, and one which may influence the appetite of market participants for the acquisition of securities in such a securitisation.
Short selling and credit default swapsEU Regulation No. 236/2012 of the Council of March 2012 on short selling and certain aspects of credit default swaps has entered into force and is fully applicable from 1 November 2012. It is supplemented by delegated regulations adopted by the European Commission specifying certain technical elements of the aforementioned Regulation to ensure its compliance and to facilitate its enforcement.
The AMF specified in its Position 2013-09 of 19 June 2013 that it will apply the European Securities and Markets Authority guidelines, from ESMA 2013/74, in relation to the exemptions to the short selling regulations for market-making activities and primary market operations under the aforementioned Regulation No. 236/2012.
High-frequency tradingThe Banking Reform regulates high-frequency trading by specifying that any person using automatic trading systems must report to the AMF the use that has been made of such systems to generate buy and sell orders of securities issued by companies having their head office in France; ensure that the order directed to a regulated market or a multilateral trading facility is traceable; keep a record of any element allowing a link to be established between a given order and the algorithms used to determine such orders; keep a record of the algorithms used to elaborate the orders transmitted to the markets, and transmit to the AMF such algorithms upon request.
In addition, the Banking Reform provides for new duties applicable to market operators or persons who operate multilateral trading facilities, to ensure that their systems have the capacity to handle the number of orders generated by automatic trading systems, so as to permit orderly trading under high-volatility market conditions. There must be mechanisms in place to permit suspension or rejection of orders exceeding set thresholds or otherwise in the event of manifestly erroneous trades. There must be procedures in place of such a nature as to maintain the orderly functioning of the markets.
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Transposition of the AIFM DirectiveThe Alternative Investment Fund Managers Directive (AIFMD) has been transposed into French law by Ordinance No. 2013-676 of 23 July 2013 and Decree No. 2013-687 of the same date.
The implementation into French law of the AIFMD was used by French authorities as an opportunity to modify the French asset management regulations to render them more competitive, in particular for foreign investors and sponsors.
One of the main modifications was to simplify the product range, leading to fewer categories of investment funds, and with two distinct sets of regulations (i.e., one set for UCITS funds – which are the sole investment funds authorised to call themselves OPCVMs – and another for alternative investment funds).
Trading of agricultural commoditiesThe Banking Reform introduces new regulations with a view to fighting excessive speculation in relation to trading of agricultural commodities. The AMF is vested with the authority to set, as from 1 July 2015, thresholds of positions that a single person may hold in financial instruments, the underlying assets of which include an agricultural commodity. The AMF will also be responsible for specifying the exemptions to such thresholds where positions are taken for hedging purposes.
Furthermore persons whose positions exceed thresholds specified in the RG-AMF for financial instruments that include underlying assets of an agricultural commodity will be subject to specific reporting to the AMF on a daily basis. Aggregated positions will be published by the AMF on a weekly basis.
iii Cases and dispute settlement
Non bis in idemThe French Constitutional Council, in a landmark decision following the jurisprudence of the European Court of Human Rights in its Grande Stevens decision, ruled on 18 March 2015 that the same person could no longer be prosecuted and condemned twice for the same facts by both the AMF Enforcement Committee and a French criminal court.11
In its decision, the Constitutional Council considered as being unconstitutional the legal provisions setting forth criminal prosecution for insider trading offences and those providing for administrative prosecution for insider trading breaches, on the grounds that the criminal and the administrative definitions of insider trading are similar, aim at punishing the same facts and protect the same public interest.
Until this decision and a well-established jurisprudence, cumulating administrative and criminal sanctions was deemed consistent with the French Constitution provided, however, that the total penalties did not exceed the maximum possible amount under either offence.
The 18 March 2015 Constitutional Council decision is to have an immediate effect, including on individuals having already been sentenced or prosecuted by the AMF or a French criminal court.
11 Cons. const., No. 2014-453/454 and No. 2015-462.
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Questions remained as to how and when criminal courts would align their case law; in two decisions dated 6 and 18 May 2015 the Paris Criminal Court applied this new principle to cumulative prosecutions under market abuses where the AMF had already prosecuted the case, even if defendants had not been ultimately sanctioned by the AMF (this was notably the case in the EADS case). These decisions concern insider-trading cases, but should cover also market manipulation and false information spreading offences.
Pursuant to the 18 March 2015 Constitutional Council decision, the French legislator has been given an interim period expiring on 1 September 2016 to draft and adopt new rules which are likely to make significant changes to the French market abuse regime and sanctions.
Structured products sold to local authoritiesLitigation and a public debate has developed in France regarding certain structured loans or derivative transactions entered into between banks and municipalities, local governments or other types of public entities (‘toxic loans’), which generated losses largely attributable to the market turmoil that followed the demise of Lehman. In this respect, several public entities are attempting to seek damages against banking institutions on various grounds (including lack of proper advice, speculative nature of such loans, mistake, fraud, etc.) or seeking that the interest provision of such structured loans be declared void. In three similar decisions rendered the same day12 involving Dexia, the Nanterre Court of First Instance decided that the contractual interest rate of the disputed loans had to be replaced by the legal interest rate as a result of the omission of the effective global rate in the faxes exchanged between the public local entity and the bank during the preparation process of the loan agreements (although this effective global rate was stated in the final loan agreements). Apart from this omission, however, Dexia succeeded on all grounds in these decisions. A more recent decision13 opposing another credit institution to the same local public entity ruled in favour of the bank, considering, inter alia, that the bank complied with all of its duties and that the local public entity consent was not vitiated. Other decisions are expected to be rendered in the next months.
In recent decisions rendered by first instance Courts or Appeal Courts, it appears that the judges tend to adopt a case-by-case approach, seeking to assess, on the basis of the facts of each case, whether the banks have properly informed their clients about the proposed products and sometimes sanctioning them for a failure to properly advise them.
The government has set up a specific fund – financed half by the state and half by a special tax on French banks – that will provide €100 million annually to help municipalities and local public entities to deal with toxic structured loans on their books. As it is currently planned, the fund will be available for 15 years and provide a total €1.5 billion in support. Further to the January rise of the CHF, it already appears that this fund may not be sufficient. Under the fund’s rules, one of the conditions to benefit from the fund is that all existing litigations with the banks are settled. Therefore one
12 Nanterre Court of First Instance, 8 February 2013, 6th Chamber (three judgments).13 Paris Court of First Instance, 25 June 2013, 9th Chamber, Section 1.
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can expect that the number of court cases involving structured loans or derivatives with municipalities will diminish.
The French parliament has also adopted additional measures in order to limit the right of municipalities and local governments to enter into structured products and to validate existing loan contracts that may fall foul of the rules regarding the indication of the effective global rate (TEG) on loan documents.
Equity swapsIn a significant and controversial decision at the end of 2011, the AMF Enforcement Committee sanctioned the market behaviour of commercial parties to equity swap transactions that were designed to be cash-settled and that were allegedly used ultimately to take a position in the issue of underlying assets.14 The case was appealed and the Paris Court of Appeal confirmed the AMF Enforcement Committee decision.15
In a high-profile case, LVMH SA had built up a 17.1 per cent stake in Hermès International SCA by buying equity swaps in 2010. In view of the fragmentation of the exposures, the positions crossing the 5, 10 and 15 per cent threshold were not declared under Article L233-7 of the French Commercial Code. In response, to the LVMH build-up in Hermès International, the Hermès family transferred a portion of its shares to a holding, which as a result owned in excess of 30 per cent of the Hermès capital and voting shares. Such a holding required the filing of a takeover bid, but an exemption was sought by the Hermès family and obtained from the AMF. LVMH lodged an appeal against that decision. The Paris Court of Appeal dismissed the appeal and the Court of Cassation16 upheld this decision. In the meantime, the AMF Enforcement Committee launched an inquiry into LVMH’s investment in Hermès International; LVMH was fined a record €8 million for failing to comply with public-disclosure requirements (Article L223-6 of the RG-AMF).
The Transparency Directive, as amended, adopted by the European Parliament in June 2013 includes provisions requiring disclosure of major holdings of all financial instruments that could be used to acquire economic interest in listed companies, thus closing the loophole used in the Hermès case.
Meanwhile, legislation was enacted in March 2012 in France, amending Article L233-7 et seq. of the French Commercial Code, so that the holder of a cash-settled financial instrument is subject to the threshold disclosure requirement contemplated by that article (applying, inter alia, where the underlying asset of that financial instrument is constituted by shares issued by a French issuer traded on an EEA-regulated market, over which the holder of the relevant financial instrument holds an economic benefit similar to possession of such shares).
Derivatives – liabilities of financial intermediariesThe principles of close-out netting under the Netting Law are applied by courts, including in the context of insolvency proceedings, although some valuation issues may arise.
14 Decision of the AMF Enforcement Committee issued on 13 December 2010.15 Paris Court of Appeal, 31 May 2012, No. 2011/05307.16 C. cass, Ch. Com., 28 May 2013, No. 11-26.423 and No. 12-11-672.
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Some recent cases have also addressed the issue of the duty of the financial intermediary to inform its counterparty of the way it will be remunerated in respect of hedging arrangements concerning commodities. In this cases, the issue at stake was the setting-up by the bank, at the request of its client, of hedging transactions against a decline in the nickel price, in the form of zero-premium options. The client was challenging the underwriting and implementation conditions of these transactions. The Paris Court of Appeal, in a decision dated 26 September 2013, ruled that the bank has the duty to inform its client of the way it is going to be remunerated and ordered the bank to pay damages (US$8 million) to its client for breach of its duty of information.
In its decision dated 17 March 2015, the French Supreme Court quashed this decision of the Paris Court of Appeal and referred the parties before the same Court of Appeals differently composed.
The Supreme Court ruled in particular that the Court of Appeals breached Article 1147 of the French Civil Code by considering that the bank was bound by a duty to inform its client of the methods it was using to draw benefit from these transactions.
On 4 May 2010, the Supreme Court ruled on a matter arising from Lehman-related prime brokerage transactions where Lehman Brothers International (Europe) (LBIE) acted as prime broker for a French alternative investment fund and a French credit institution acted as a depository.17 Following the LBIE insolvency, the investment fund requested that the credit institution acting as a depository re-deliver assets to fund investors under prime brokerage with LBIE. The credit institution had filed an appeal of an AMF injunction to re-deliver those assets. The Paris Court of Appeal upheld the AMF injunction and the Supreme Court confirmed that decision, all on the basis of overriding public policy considerations. It also dismissed on the same grounds defences raised under the provisions of Article 5.2 of the EU Collateral Directive regarding resort by the collateral taker to the remedy of set-off where the security collateral arrangement so provides. The court disapplied the provisions of the prime brokerage agreement in respect of the right of use that prohibited the resort to setting off the value of equivalent collateral against the discharge of financial obligations.
The liability of a depository in the context of a French alternative investment fund using prime brokerage services will be governed by the provisions of Ordinance No. 2013-676 of 25 July 2013 (Article L214-24-10 of the M&FC), which transposes in French law the Directive 2011/61/EU of 8 June 2011 on Alternative Investment Fund Managers (the AIFM Directive).18
iv Insolvency law
Insolvency, composition or rehabilitation proceedings in France are the proceedings of judicial reorganisation and judicial liquidation governed by the bankruptcy provisions contained in the French Commercial Code. Since 1 January 2006, these proceedings have been supplemented by a safeguard proceeding as a result of the enactment of the Safeguard Law. Pursuant to the new Safeguard Law No. 2010-1249 of 22 October 2010,
17 C. cass., Ch.civ., 4 May 2010, 09-14.976.18 Article 21, Subparagraph 12 et seq. of the AIFM Directive.
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effective 1 March 2011, the Judicial Reorganisation Proceeding, the Judicial Liquidation Proceeding and the Safeguard Proceeding are supplemented by an ‘accelerated financial safeguard procedure’, which allows a debtor to reach a voluntary restructuring agreement with its primary financial creditors (financial institutions and bondholders) on an accelerated basis. This corresponds roughly to the equivalent of a US Chapter XI pre-packaged reorganisation plan.
More recently, the Ordinance of 12 March 2014 has introduced an ‘accelerated safeguard proceeding’.
French insolvency proceedings are initiated with a judgment admitting the debtor to the safeguard proceeding or otherwise declaring a debtor insolvent and ordering its judicial reorganisation or liquidation under the appropriate proceeding.
A safeguard proceeding introduced pursuant to the provisions of Article L620-1 and following the French Commercial Code is available on demand to a debtor who, while not meeting the insolvency test, is justifying the existence of difficulties that it is unable to overcome and that may lead to its insolvency. It is aimed at facilitating the reorganisation of the enterprise leading to the continuation of its business, job preservation and discharge of its liabilities.
A reorganisation phase approved by judgment then follows an appraisal period. During the appraisal period, the debtor remains in possession as it is administered by its managers. The bankruptcy judgment may, however, appoint one or more judicial administrators whose duties are to monitor the debtor in respect of its management or to otherwise assist the debtor in any managerial acts.
Under Articles L631-4 and L640-4 of the French Commercial Code, the opening of judicial reorganisation or liquidation proceedings is requested by the insolvent debtor within 45 days of the date of insolvency, provided it has not applied for the opening of conciliation proceedings within that period.
The French Commercial Court also has jurisdiction to order such proceedings on its own initiative or at the request of the public prosecutor or a creditor.
The accelerated financial safeguard procedure will allow a debtor to reach a voluntary restructuring agreement with its primary financial creditors (financial institutions and bondholders). This procedure will enable a debtor to move from the conciliation procedure into the accelerated safeguard procedure when it proves to the French Commercial Court that the restructuring plan ensures the continuity of the company and has a good chance of being approved, within a short period of time (see below). The restructuring plan must be adopted by a majority of two-thirds of the claims in the committee (consisting of banks and financial institutions) and in the bondholders’ general meeting, if any. This procedure is shorter than the ordinary safeguard procedure and lasts one month from the opening of the procedure with a possible extension of one further month only.
Under Article L631-1 of the French Commercial Code, inability to meet current liabilities with current assets constitutes the insolvency test.
A period of appraisal also applies in respect of a judicial reorganisation proceeding. As in a safeguard proceeding, the period of appraisal starts from the date of the bankruptcy judgment and may, subject to the court’s determination, extend for a period of up to 18 months. During such period, a reorganisation plan is prepared by the judicial administrator) appointed in the bankruptcy judgment. Such plan contemplates
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the continuation of the activities of the debtor and – as the case may be – the termination, addition or assignment of one or several activities (provided that such assignment is subject to the provisions relating to judicial liquidation proceedings).
At any time during the appraisal period, the court may order, upon application of the debtor, the judicial administrator, the representative of the creditors, the controller, the public prosecutor or sua sponte, the partial closing down of the business.
The court may convert the safeguard proceeding into a judicial reorganisation proceeding if the debtor meets the insolvency test, or the safeguard proceeding or the judicial reorganisation proceeding (as the case may be) into a judicial liquidation proceeding if the reorganisation of the debtor appears to be manifestly impossible otherwise or if the assignment of its assets is otherwise contemplated either as a whole or separately.
At or prior to the expiry of the appraisal period, the court either approves a plan or declares the judicial liquidation of the debtor. The judicial liquidation may be ordered without the benefit of a prior appraisal period when the relevant business has ceased its operations or when a judicial reorganisation appears to be manifestly impossible. A liquidator is then appointed.
v Role of exchanges, central counterparties (CCPs) and rating agencies
CCPsArticle L440-1 et seq. of the MF&C provides that clearing houses ensure monitoring of positions, margin calls and, if need be, mandatory liquidation of positions. A clearing house is required to have the status of a credit institution. Its operating rules are approved by the AMF, the French markets and securities regulator.
The Banking Reform modifies the legal regime applicable to French clearing houses, with particular attention to the conditions under which, in the event of default by a participant, a clearing house may transfer the position and collateral of the participant’s clients to another participant.
Relations between the clearing house and participants are governed by contract. The Banque Centrale de Compensation is the LCH.Clearnet SA entity licensed as a bank through which clearing operations are carried out, operating under the LCH.Clearnet trade name. Banque Centrale de Compensation was initially created in 1969, and in 1975 it started to clear OTC markets. In 1990 it became a subsidiary of Matif SA, the clearing house of the derivatives market, licensed as a financial institution.
In 1988 SBF (Société des Bourses Françaises) was created as a market undertaking and clearing house for regulated markets in the form of a financial institution. SBF-Bourse de Paris took control of Matif SA in 1998, and during that year Clearnet also launched a clearing service for French government securities and was the first organisation in Europe to allow remote clearing.
In 1999 the French markets were restructured, as a result of which all regulated markets were run by a single body, the Société des Bourses Françaises (trading under the name of Euronext Paris). Clearnet was spun off as a subsidiary of Euronext and became the clearing house for all products traded in the Paris market. It clears through the Banque Centrale de Compensation.
LCH.Clearnet SA is today a wholly-owned subsidiary of LCH.Clearnet Group Ltd, 57 per cent of the shares of which are owned by the London Stock Exchange.
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LCH.Clearnet SA has been designated by the Minister of Finance as a system under the EU Settlement Finality Directive as transposed in France under Article L330-1 and following the M&FC.
To reduce the systemic risk posed by derivatives in compliance with G20 commitments relating to clearing standardised OTC derivatives, EU Regulation No. 648/2012 of 4 July 2012 on OTC derivatives, CCPs and trade repositories (EMIR) has been adopted and came into force on 16 August 2012. It lays down clearing and bilateral risk management requirements for OTC derivative contracts, reporting requirements for derivative contracts and uniform requirements for the performance of the activities of CCPs and trade repositories.
LCH.Clearnet SA, under its Rule Book, guarantees performance with regard to its participants. The ACPR assimilates a clearing house to a payment infrastructure.
As mentioned above, Banque Centrale de Compensation is licensed as a bank or credit institution for purposes of the EU Banking Directive. As such, it is also subject to mandatory reserve obligations under the ECB Regulation.19
Under the provisions of the M&FC it is mandatory for a clearing house to be licensed as a credit institution and this has been confirmed by the Banking Reform.
Being subject to reserve requirements also entitles the Banque Centrale de Compensation to Central Bank money.20
Although already subject to EMIR, a CCP is also subject to comprehensive requirements, including in the areas of capital and compliance. These requirements fall short, however, of requiring that a CCP be licensed as a credit institution. Authorisation as a CCP is granted by the competent authority of the Member State in which it is established. Among the transitional measures contemplated by EMIR, by 17 August 2015 the Commission has to assess, inter alia, in cooperation with the members of the European System of Central Banks (ESCB), the need for any measures to facilitate access of CCPs to central bank liquidity facilities.
Rating agenciesThe French regulatory environment relating to rating agencies is governed by the EU Regulation on credit rating agencies issued on 16 September 2009 No. 1060/2009, as modified by Regulation No. 513/2011 issued on 11 May 2011, which reinforces the direct supervision and control powers limited in the first version (the Rating Regulation).
The Rating Regulation imposes on rating agencies the duty:a to avoid conflicts of interests and to require an increasingly high degree of
independence from stakeholders within the rating process;b to improve the rating quality by achieving higher standards in respect of
methodology;c to improve governance and internal controls of rating agencies; andd to introduce rules to improve the transparency of the rating process regarding
the rated entity as a sine qua non condition to win public confidence in financial markets.
19 Regulation No. 2818/98 of the European Central Bank.20 General Documentation on Eurosystem monetary policy instruments and procedures, p. 10.
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On 30 May 2012, four Commission Delegated Regulations establishing regulatory technical standards for credit ratings agencies were published. These technical standards set out:a the information to be provided by a credit ratings agency in its application for
registration to ESMA;b the presentation of the information to be disclosed by credit ratings agencies in
a central repository so investors can compare the performance of different credit ratings agencies in different rating segments;
c how ESMA will assess rating methodologies; andd the information that the credit rating agencies must submit, and at what time
intervals, to ESMA for it to supervise compliance.
Ratings used either for regulatory purposes or in a prospectus to be used for admission to trading on a regulated market must be issued by credit rating agencies established in the Community and registered in accordance with the Rating Regulation. A credit agency may, subject to certain conditions, endorse a credit rating issued in another country. Exemptions to endorsement are subject to certain conditions. Such credit rating agencies must apply for certification.
The Regulation further provided that by 7 June 2010 each Member State should designate a competent authority for the purpose of the Rating Regulation. The AMF has been designated by Law No. 2010/1249 of 22 October 2010 as the competent French authority for registration and supervision of credit rating agencies.
Key provisions of Regulation No. 462/2013 of the European Parliament and of the Council of 21 May 2013, amending Regulation (EC) No. 1060/2009 on credit rating agencies, contemplate that ratings will be published on a European Rating Platform, rating of sovereign bond will be limited and made more transparent, financial institutions will have to strengthen their own credit risk assessment and the risk of conflicts of interest will be mitigated.
Article 544-5 of the M&FC addresses the liability of credit rating agencies with regard to clients and third parties for damages resulting from the fault or negligence of the credit rating agencies in the performance of their obligations under the Regulation. Any agreement designating in advance a jurisdiction located outside the EU to settle such disputes is deemed null and void if the French courts would otherwise have jurisdiction over those matters.
As a result of the economic crisis and of the new EU legal framework governing rating agencies, the three agencies dominating the French rating market (Moody’s, Standard & Poor’s and Fitch) have reorganised their structures, reinforcing their supervisory activity. The rating agencies in France had already substantially modified their methodology in 2009 relating to bonds so that estimated liquidity risk could be taken into account and addressed.
III OUTLOOK AND CONCLUSIONS
The French banking system has emerged stronger from the turmoil of 2007–2009, although a few institutions have been subject to severe stress.
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The focus on universal banking, combining a robust retail banking sector (which benefits from strong shareholder support) with corporate investment banking activities operating in a well-established regulatory and supervisory environment, has been at the root of France’s ability to overcome the severe difficulties and substantial losses of the past few years.
Losses sustained in this period were essentially attributable to structured products (and a substantial portion of that loss related to subprime products), monoline exposure, and market counterparties. Operational risk and compliance failures also resulted in losses. Liquidity remains, however, a matter for concern, as has been shown by the problems of Dexia Bank.
The French government together with its European counterparts has taken swift measures to enable banks to strengthen their own funding requirements and to ensure continuous dialogue between the French bank supervisor and major French banks in the context of the Basel II Pillar 2 measures. Tools created and used between 2008 and 2009 to solve bank liquidity problems and to strengthen own funds may be easily reactivated. Those actions resulted in the restoration of confidence, leading to a phase-out of emergency measures in 2009 as liquidity improved.
The events of the past few years have shown that remedies for a global crisis lie only in global (and regional) actions. The need for improvement of the supervisory framework at the European level, in close coordination with Member States, has become compelling. The adoption, therefore, of Basel III measures has constituted a particular challenge in the context of strengthening regulatory capital levels. Entry into force of CRD IV and CRR is expected to strengthen the trend towards disintermediation, together with enhanced recourse to capital market instruments and securitisation. It is in this context that the initiatives under consideration by European governments to create a single supervisory banking framework under ECB oversight are to be considered.
With the aim of enhancing access to credit facilities for small and medium-sized enterprises and to facilitate access to export financing on competitive terms to French corporate entities, Law No. 2012-1559 of 31 December 2012 has created a public investment bank. The crisis has also shown the importance, and challenges, of the reform and harmonisation of accounting standards. Reduced complexity, better coordination and the improvement of risk-provisioning rules are of the utmost importance.21
The long-awaited creation of pan-European supervision authorities, including the EBA, ESMA and the European Insurance and Occupational Pensions Authority (EIOPA), has helped address the compelling need for supervision at European level. The adoption on 12 June 2014 of the Directive on Markets in Financial Instruments No. 2004/39/EC (MiFID II) and Regulation No. 600/2014 on the Markets in Financial Instruments (MiFIR) is also a major item on the agenda of reform of the European securities markets.
21 A Maffei, ‘A survey of current regulatory trends’, The International Bar Association’s Task Force on the Financial Crisis, October 2010, pp. 175–176.
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Chapter 10
GERMANY
Kai A Schaffelhuber1
I INTRODUCTION
i Structure of the law
‘Capital markets’ in the German understanding refers to the market for financial instruments (within the ambit of Annex I, Section C of the Markets in Financial Instruments Directive (MiFID))2 and the ‘grey capital market’ that conceptually includes any financial products that are not technically financial instruments in the narrow sense (mostly for lack of tradability in a legal sense, such as stakes in closed-ended funds, which are legally partnership interests, and shares in limited liability companies). Although this dichotomy is becoming ever more blurred since certain grey capital market financial products are deemed to be financial instruments within the ambit of the Banking Act (KWG) for certain (quite limited) regulatory purposes, and some ‘grey capital market’ financial products fall within the ambit of the German transposition of the AIFMD (in the Capital Investment Code (KAGB), which provides a unified framework for all kinds of UCITS, non-UCITS and alternative investment funds), it still continues to be useful for analytical purposes. While the market for financial instruments in the narrow sense is very densely regulated in respect of market access and market behaviour, the grey capital market is somewhat more sparsely regulated; except for the accounting directives (which indiscriminately apply to both issuers of financial instruments and originators of other financial products), the Alternative Investment Fund Managers (AIFM) Directive, and the Packaged Retail and Insurance-Based Investment Products (PRIIPS) Regulation, harmonised EU capital markets law almost exclusively aims to regulate markets for financial instruments (within the ambit of Annex I, Section C of
1 Kai A Schaffelhuber is a partner at Allen & Overy LLP.2 Transferable securities, money market instruments, foreign currencies and units of account,
and derivatives.
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MiFID), and German law basically follows this approach, except for a special prospectus requirement for financial products of the grey capital market, a special licensing requirement (hardly more than mere registration) for distributors of such products, certain structural requirements for such products, and the power of the Federal Financial Supervisory Authority (BaFin) to ban certain misleading sales promotion. Former ‘light touch regulation’ of the grey capital market had already been somewhat fundamentally changed in the context of the transposition into German law of the AIFM Directive by the KAGB, which made all kinds of collective and quasi-collective investments schemes subject to fund regulatory law, albeit with limited impact unless the AIFMD thresholds for assets under management are met, now basically finally found an end as a result of the Small Investor Protection Act – which partly anticipates a future German transposition of MiFID II and partly further tightens the grip over ‘grey capital market’ financial products.
Capital markets law is the body of laws and standards that directly or indirectly regulate the capital markets – market access, market behaviour and market-related behaviour of market participants – and thereby safeguard their efficiency. It has an interdisciplinary profile, being implemented through a vast and somewhat unsystematic body of administrative, civil and criminal law provisions at both supranational (European) and national levels. Administrative policies (such as the BaFin’s Issuer Guideline, circulars and other publications, and certain publications of the European Securities and Markets Authority and the former Committee of European Securities Regulators) play a highly important role in practice; they provide a minimum level of comfort to market participants although they merely reflect the respective authority’s interpretation of the law – which is not necessarily correct – and are not binding on the courts. Standards set by private standard setters (such as the International Accounting Standards Board, the German Accountancy Standards Committee and the German Institute of Auditors) have high practical impact. The vast field of over-the-counter (OTC) derivatives is almost exclusively dominated by standard forms of agreements proposed by private institutions such as the International Capital Market Association, the International Swaps and Derivatives Association, and the Federal Association of German Banks (BdB), but market infrastructure law and regulation (EMIR; MIFID) has certain repercussions on documentation and trading.
German capital markets law is, to a large extent, harmonised EU capital markets law: more than 80 per cent of the relevant provisions are based on EU law. The Securities Trading Act (WpHG) – sometimes called ‘the constitution of the German capital market’ – the Deposit Protection Act (EinSiG) and the Investor Compensation Act (AnlEntG), the Stock Exchange Act (BörsG) and the Stock Exchange Admission Regulation (BörsZulV), the Securities Prospectus Act (WpPG), the Securities Acquisition and Takeover Act (WpÜG), the accounting provisions of the Commercial Code, and the KAGB are substantially or even entirely based on EU directives, implementing the Investment Services Directive, the AIFM Directive, the Financial Markets Directives, the Transparency Directive, the Settlement Finality Directive, the Market Abuse Directive, the Investor Compensation Directive, the Prospectus Directive, the Directive on the Admission of Securities to Official Stock Exchange Listing, and the Accounting Directives and the Undertakings for Collective Investment in Transferable Securities (UCITS) Directives. While in the past, EU directives almost exclusively provided for
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‘minimum harmonisation’ and left ample leeway for national legislators to provide for stricter rules at the national level – which the German legislator sometimes did – they now mostly provide for ‘maximum harmonisation’, meaning that Member States must follow the levels prescribed by the EU and have no discretion to introduce stricter rules.
The core parts of German capital markets law are codified in the WpHG and the WpÜG, which basically deal with market behaviour issues relating to the market for financial instruments, and in the KWG, the BörsG and BörsZulV, and the WpPG, which basically deal with market access issues relating to the market for financial instruments and to distributors active in this market. Market behaviour regulation in the WpHG is basically a transposition of the MiFID regime, except for such specific issues as the requirement for a key investor information document to be delivered to retail customers in the context of the provision of investment advice relating to any kind of financial instruments (while EU law currently – until the implementation of the PRIIPs and MiFID II regimes – only requires key investor information documents for UCITS) and provision of written minutes for any investment advice given to retail customers. Notably, there is currently no specific regulatory framework for the sale of structured products (debt instruments with embedded derivatives) to retail customers, although Germany is the largest market for such products; however, the German Derivatives Association – a self-regulatory organisation of the German structured products industry – published of a ‘fairness code’ that provides, inter alia, for a requirement to disclose the fair value of retail structured products. The WpPG – the German transposition of the Prospectus Directive – is supplemented by the Capital Investment Act (VermAnlG), which substituted for the former Sales Prospectus Act and provides for a prospectus requirement for investments that are not technically securities in a narrow sense, such as stakes in closed-ended funds (which are legally partnership interests) and thereby covers virtually all of the grey capital market. In addition to the prospectus requirement, the VermAnlG also provides that the relevant (retail) products must have a minimum maturity and a minimum notice period – so as to avoid liquidity issues and outright runs, which occurred when very short-maturity subordinated profit participations rights were used to refinance long-term renewable energy investments – and interdicts the distribution of retail products that require subsequent additional capital contributions.
The direct or indirect distribution of non-self-issued financial instruments to (retail, wholesale and institutional) customers is a regulated financial service that requires a licence under the KWG or a passported European licence, and involves regulatory supervision by the BaFin and the German Federal Bank (Bundesbank).3 Except for the licensing requirement for providers of collective securities management (that aims at certain financial products related to collective investment schemes – such as stakes in closed-end securities trading funds and self-issued bonds linked to the performance of managed securities portfolios – that would otherwise fall into an unregulated gap between financial portfolio management within the ambit of the KWG and investment
3 Investment advice, investment brokering, contract brokering, underwriting, financial portfolio management, proprietary trading or collective securities management, depending on the nature of the service.
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fund administration within the ambit of the KAGB) these licensing requirements are transpositions of Article 5(1) of MiFID; however, investment advice, investment brokering, and best-efforts underwriting may be provided by tied agents (i.e., persons not holding a financial services licence themselves but acting under the umbrella of the licence held by a deposit-taking credit institution or a securities trading firm) if the conditions set out in Article 23 of MiFID are met. A tied agent acting in Germany under the umbrella of a deposit-taking credit institution or a securities trading firm from another European Economic Area country would be deemed a German branch of that foreign firm, to the effect that the foreign firm would have to hold a European passport for a German branch.
Cross-border financial services that are provided from abroad are deemed regulated financial services in Germany if the German market is actively targeted, meaning the financial promotion (solicitation) is directed into Germany. Whether this is the case depends on a complex bundle of criteria, mainly driven by customer protection concerns; it is rather questionable whether the BaFin’s current regulatory policy (restated in 2005) will be the last word on any and each detail, in particular in the light of the upcoming MiFID II rules. As a consequence, foreign firms not holding a European passport are basically banned from actively providing cross-border financial services into Germany unless they use a German fronting bank, or in the case of reverse solicitation by the client. There are certain exceptions with respect to certain activities of Swiss banks under a German–Swiss memorandum of understanding of 16 August 2013.
Naked short sales of shares and eurozone public debt instruments admitted to trading on a regulated market in Germany, as well as cash-settled credit derivatives the reference asset for which is eurozone public debt, are now banned under the EU Short Selling regulation, which substituted the former German framework. Further, there are notification and publication obligations for net-short positions in shares admitted to trading on a regulated market in Germany exceeding certain thresholds. A naked short sale within the ambit of the law occurs when the seller of the shares or debt instruments is not the owner of such securities or does not have an unconditionally enforceable claim for delivery of a corresponding number of securities by the end of the day on which the respective transaction occurs. The short-selling ban provides an exemption for short sales by an investment services company or similar organisation domiciled abroad if and to the extent such a company acts as a market maker or hedges positions resulting from certain trades with customers. The ban on public debt credit derivatives provides an exemption for short sales by an investment services company or similar organisation domiciled abroad, if and to the extent such a company acts as a market maker. Any market participant intending to make use of such exemptions must notify BaFin immediately, specifying the respective financial instruments concerned. The short-selling ban applies extraterritorially. Further, BaFin is empowered to temporarily prohibit or suspend trade in certain financial instruments, in particular with regard to derivatives whose value directly or indirectly derives from the price of shares or eurozone public debt instruments admitted to trading on a regulated market in Germany, if their structure and effect are, from an economic perspective, equivalent to short-selling and do not lead to the reduction of a market risk.
Distribution of grey capital market financial products only requires a licence (basically little more than a mere registration) from the competent local trade board
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under the Industrial Code (GewO) and does not involve regulatory supervision by the BaFin or the Bundesbank (except for the applicable prospectus regime and the BaFin’s power to ban certain misleading advertising). As with financial services, the licensing requirement is triggered if the German market is actively targeted in the context of cross-border distribution from abroad.
The provision of regulated financial services without a proper licence (or European passport) is a criminal offence under the KWG and a tort under the Civil Code. As a consequence of the latter, any customers that have dealt with an intermediary who acted without a licence are entitled to tortious relief in the form of integral restitution. This means that the customer has a (contingent) American-style put option with regard to the intermediary at a strike price equal to the costs expended on the purchase of the investment plus interest on such costs in the amount of the missed yield of an alternative investment, with a tenor of at least three years from the end of the year in which the client knew or grossly negligently ignored the factual basis of the claim, and up to 10 years after the purchase date (the applicable statute of limitations). The binding effect of the agreement that was entered into is considered to constitute a per se damage, to the effect that no actual money damage must be proven. A similar regime applies to activities that (only) require a licence under the GewO.
The requirement for specific short-form disclosure through a product information sheet that is to be delivered to customers in the context of the provision of investment advice relating to any kind of financial instruments – other than UCITS, which are governed by Commission Regulation (EU) 583/2010) – raises a large number of practical questions. Some of these have meanwhile been solved by a BaFin circular, and the plain and easy language requirement has been tackled by a glossary jointly developed by associations of the banking industry and the Federation of Consumer Protection Organisations under the auspices of the BaFin and the Federal Ministry of Food, Agriculture and Consumer Protection. As a consequence of the revised Prospectus Directive – which was completely transposed into German law through revision of the WpPG and entered into force of law together with the revised Prospectus Regulation in July 2012 – the way the base prospectus regime used to be handled in Germany had to be discontinued as the German ‘integrated conditions’ style of final terms is no longer permitted. Further, the stringent restrictions on new information that may be included in final terms took away much of the flexibility that used to be associated with the base prospectus regime, which was popular for issuing retail structured products.
Investors in German bank debt should be aware of the potential effects of changes to the bank resolution and bail-in regime under the German Restructuring and Resolution Act (SAG), which provide for certain features that go beyond the mere transposition of the Bank Recovery and Resolution Directive (BRRD).
The BRRD had been implemented in Germany in full in January 2015. The act to implement the single resolution mechanism (SRM) (i.e., the AbwMechG) provides for a number of technical modifications of the SAG and piggybacks a provision that (by way of an amendment to Section 46f KWG) changes the insolvency waterfall and thereby – as a function of their interconnectedness (Article 48(1)(f ) BRRD, as transposed by Sections 68(1) No. 1, 97 SAG – the sequence of write-down and conversion in a bail-in scenario. Although that provision will only enter into force on 1 January 2017 it is of practical importance already now as there are no phase-in provisions, to the effect
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that the modified insolvency waterfall and sequence of write-down and conversion will apply retrospectively to any and all outstanding debt. The initial draft of the law was subject to heavy criticism from various sides. The opinion of the European Central Bank of 2 September 2015 highlighted that the proposed subordination of senior debt instruments would not be without an impact in particular on (1) pricing and capital requirements for holding senior unsecured bank bonds; (2) investment mandates; and (3) the ratings and therefore refinancing costs of the German credit; and that (4) the affected senior debt instruments would no longer be eligible as collateral for Eurosystem credit operations. The final draft that was enacted into law does rather not substantially change the subordination of senior debt. The new law provides for the following:a Section 46f(5) KWG provides that in the insolvency of a credit institution,
among the non-subordinated claims, any claims that are not senior unsecured debt instruments as defined in new Section 46f(6) KWG shall be satisfied first. Thus, other than in the initial draft, the affected instruments are formally not disignated as subordinated, but as unsubordinated. However, this change of the wording does not trigger any substantive change compared to the initial draft: If claims under the affected debt instruments are only satisfied after any and all other non-subordinated claims have been satisfied in full, the legal and economic effect of such modified insolvency waterfall is that the affected claims are subordinated to any and all other non-subordinated debt (but senior to all explicitly subordinated debt), as they would have been by virtue of the explicit subordination clause of the initial draft.
b New section 46f(6)1 KWG defines the affected debt instruments as (1) bearer bonds and bonds made out to orders; (2) debt instruments comparable to those under (1) that are negotiable in the capital markets; (3) registered bonds; and (4) certificates of indebtedness unless they are deposits within the ambit of Section 46f(4); (3) and (4) are not technically negotiable – as they are transferred by way of assignment under the law of obligations, to the effect that the aquirer only enjoys limited protection – but are usually used for wholesale funding purposes in a way comparable to (1) and (2).
c Section 46f(6)2 KWG excludes money market instruments (as defined in Section 1(11)2 KWG) from the affected instruments, to the effect that the modified insolvency waterfall pursuant to Section 46f(5) KWG does not apply to them irrespective of their legal form; further; other than in the initial draft, the final draft also explicitly exludes (1) debt instruments within the ambit of Section 91(2) SAG (equivalent to Article 44(2) BRRD) and (2) debt instruments issued by public law institutions that are not subject to insolvency law from the application of the modified insolvency waterfall.
d Pursuant to Section 46f(7) KWG, the modified insolvency waterfall pursuant to Section 46f(5) KWG does not apply to (structured) debt instruments whose payment of principal or interest (1) is contingent on the occurrence or non-occurrence of a future uncertain event other than the evolution of a reference interest rate, or (2) is settled other than by way of a money payment; although the existence of termination rights (issuer call option; holder put option) might formally be understood as a dependency of the repayment of principal on a future uncertain event, it seems obvious that these cases are not covered by the exception
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under Section 46f(7) KWG in the light of purpose of the law (as termination rights are not about whether principal will be repaid, but only about when such repayment will occur).
As a result, in conjunction with Section 46f(4) KWG, which provides that deposits made by eligible depositors within the ambit of the deposit protection legislation (i.e., the German transposition of Directive 94/19/EC and Directive 2014/49/EU on deposit guarantee schemes) shall be ranking prior to any and all other indebtedness, irrespective of whether they exceed the coverage level (of €100,000), the insolvency waterfall will be as follows:a covered deposits within the ambit of the EinSiG held by natural persons and
micro, small and medium-sized enterprises within the ambit of Title 1 Article 2 of the Annex to Commission Recommendation 2003/361/EC of 6 May 2003, irrespective of whether they exceed the coverage level (of €100,000) or not;
b money market instruments; deposits other than those under (a) above; structured senior debt instruments within the ambit of Section 46f(7) KWG; any other pari passu claims (all ranking equally among them);
c senior debt instruments witin the ambit of Section 46f(6)1 KWG;d contractually or legally subordinated debt instruments (with their relative rank
being derived from the relevant contractual or legal provisions); ande equity instruments.
The sequence of write-down and conversion will be as follows:a equity instruments;b contractually or legally subordinated debt instruments (with their relative rank
being derived from the relevant contractual or legal provisions);c senior debt instruments witin the ambit of Section 46f(6)1 KWG;d money market instruments; deposits other than those under (e) below; structured
senior debt instruments within the ambit of Section 46f(7) KWG; any other pari passu claims (all ranking equally among them); and
e covered deposits within the ambit of the EinSiG held by natural persons and micro, small and medium-sized enterprises within the ambit of Title 1 Article 2 of the Annex to Commission Recommendation 2003/361/EC of 6 May 2003 to the extent they exceed the coverage level of €100,000.
Deposits within the ambit of the EinSiG that do not exceed the coverage level (€100,000) cannot be written down or converted (Sections 2(3) No. 24, 68(1) No. 2 SAG). In a scenario where the write-down or conversion would eat into them the partial transfer tool will have to be applied instead of the write-down or conversion tool.
ii Structure of the courts
The German court system consists of five distinct structures, each of which is basically three-tiered with its own supreme court (i.e., each consists of a trial court, a court of appeal and a supreme court level). In addition to the hierarchy of the ordinary (civil and criminal) courts, there are separate systems of labour, administrative, tax and social security
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courts. The legality of administrative actions can be challenged before the administrative courts (tax courts and social security courts being specialised administrative courts), whereas disputes between private persons (and between private persons and the state and its subdivisions, if these are not acting in an administrative capacity) are dealt with by the ordinary courts (and the labour courts, if the dispute stems from a labour contract or collective labour issues). Thus, lawsuits against BaFin for the purpose of challenging a regulatory measure would have to be brought before the administrative courts, whereas disputes between market participants are to be litigated before the ordinary (civil) courts. In the ordinary (civil) courts there are special chambers for commercial affairs at the trial court level, where a professional judge sits with two commercial experts chosen for their specific expertise.
iii Supervisory agencies
BaFin is the supervisor for any and all issues related to financial instruments, whereas the grey capital market is (extremely sparsely) supervised by the local trade boards under the GewO (with the BaFin only being competent for the approval of prospectuses and the ban of certain misleading advertising). Under an operational agreement between the BaFin and the Bundesbank the latter is assigned most of the operational tasks of day-to-day supervision of banks and financial services providers. The Bundesbank’s responsibilities notably include evaluating the documents, reports, annual accounts and auditors’ reports submitted by the institutions as well as regular audits of their operations. The Bundesbank holds both routine and ad hoc prudential discussions with the institutions. The supervision of trading in financial instruments by the BaFin serves the objectives of market transparency, market fairness and investor protection. The stock exchange supervisory authorities of the federal states are responsible for the supervision of compliance with stock exchange regulations. The BaFin’s competences with regard to credit institutions within the ambit of the CRR are now partly superseded by the ECB under the SRM.
iv Trends reflected in decisions from the courts and other relevant authorities
It is fair to say that banks and financial intermediaries currently have a somewhat difficult standing with the courts and the regulator (and also the legislator); there is a broad consensus (which is to a large extent the consequence of severe hindsight bias) that applicable standards should be tightened to the detriment of the former. As in the aftermath of any financial crisis, investors are inclined to forget about the true reasons for their investment decisions, plaintiffs’ lawyers search for ‘put options by law’ to allow for ill-gone investments to be unwound, and, by (retroactively) tightening standards of disclosure and advice, the courts seem quite willing to ‘help’ investors who seem to have been milked or bilked. The focus is mostly on misselling, but another big issue is the validity of the terms and conditions underlying certain financial products under the law on unfair contract terms. The Small Investor Protection Act – which partly anticipates a future German transposition of MiFID II and partly further tightens the grip over grey capital market financial products – is intended to further get to grips with the distribution of financial products.
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II THE YEAR IN REVIEW
Legislative and regulatory activity and activism in the area of capital markets now mainly occur at the EU level, to the effect that there has been little development at the purely national level.
i Developments affecting the distribution of financial instruments in general
As previously noted, the Small Investor Protection Act aims to further deal with the distribution of financial products. The Act on on Fee-Based Investment Advice intends to strengthen the independence of financial advisers and partly anticipates MiFID II’s drive against inducements paid to financial advisers from product providers: financial advisers will have to disclose their respective roles.
The transposition of Article 49(2)–(4) BRRD (Section 93(5) SAG) has been modified so as to apply to any and all financial obligations within the ambit of Section 104(2) of the German Insolvency Act (InsO) that have been entered into under any framework netting agreements. This remedies certain concerns that had been raised with regard to how indebtedness under GMRA/GMSLA securities lending transactions will be treated in a bail-in scenario.
ii Cases
The jurisprudence of the Federal Court of Justice, Germany’s supreme civil court, on disclosure requirements with regard to conflicts of interest that result from its purpose of making a profit on products that it recommends and sells to customers, has been developed further:
The relevant jurisprudence of the Federal Court of Justice, in which a bank would have to disclose the ‘initial negative market value’ (i.e., the initial negative model value that is equivalent to the bank’s built-in accounting profit margin) of a non-generic interest rate swap has meanwhile been even more deeply entrenched. This jurisprudence is based on the (erroneous) assumption that the seller’s initial negative model value would be an expression of how ‘the market’ was actually assessing the odds of the trade, and obviously neglects the common price differences between the wholesale and retail markets, and the specific intermediary function of a market-maker. This jurisprudence must be read against the background of the well-established case law that a bank that sells a financial product to a customer other than in the ‘no-advice’ or ‘execution only’ modes is deemed to enter into an implicit investment advisory agreement with the customer, to the effect that the bank has a double role with regard to the client, as it is simultaneously the seller or counterparty and the adviser, (i.e., each sales pitch is also the provision of investment advice). The bank must provide the prospective investor with any information that is reasonably required to properly assess him or herself the risks connected with the envisaged investment. Breach of the disclosure requirement entitles the customer to reverse the trade (by way of damages in the form of restitutio in integrum, i.e., the customer basically has a put-option at strike, which is equal to the purchase price plus interest hypothetically earned on an alternative investment for up to 10 years – the applicable statute of limitations), which gives huge impact to any legal uncertainty. However, the Federal Court of Justice has now ruled that the investor is not entitled to
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damages (relief in the form of integral restitution) in the event that the intermediary explicitly refuses to make the required disclose, and the investor proceeds to purchase the relevant financial product irrespective of such refusal. The Federal Court of Justice has now held that the jurisprudence on disclosure of built-in profit margins basically only applies where the adviser is also the producer or seller of the product, as otherwise there is no relevant conflict of interest. Only if the built-in profit margin of the producer or seller is so large that the purpose of the investment cannot reasonably be reached will the adviser have to highlight this.
The potential effects of a judgment from 2012, in which the Federal Court of Justice held that an insolvency-related default trigger that leads to the early termination of a contract for the ongoing supply of goods or energy is void, are still causing some concern with regard to OTC derivatives, as the courts have not yet had a chance to make some clarifications. Taken at its word, the judgment could mean that close-out netting provisions in master agreements would not take effect in accordance with their terms but would only trigger the statutory netting regime provided for in Article 104 InsO, which might result in base risk, the consequences of which are hard to assess. However, it is highly questionable whether such an interpretation would be in line with the EC Financial Collateral Directive,4 which explicitly requires the EU Member States to ensure that close-out netting provisions in market-standard master agreements can take effect in accordance with their terms.5 As a mere statutory netting regime for derivatives – as provided for in Section 104 InsO – would not be exactly what EU law requires, Sections 104 and 119 InsO would have to be construed and interpreted consistently with EU law to the effect that contractual netting provisions would not be deemed void. However, there is now some legal uncertainty until the issue is expressly addressed by the courts or the legislator amends the relevant provisions of the InsO.
iii Role of exchanges and central counterparties
Central counterparty (CCP) clearing for OTC derivatives is still heavily in focus with regard to the implementation of the European Market Infrastructure Regulation (EMIR), CRD IV, and MiFID II, and both CCPs and clearing members are finalising the development of the contractual framework. The German Banking Association proposed an annex to the German framework agreement for derivatives that addresses certain issues raised by EMIR.
III OUTLOOK AND CONCLUSIONS
We have yet to deal with substantial parts of the regulatory tsunami that attends the financial and sovereign debt crisis that began in 2007: CRD IV/CRR, AIFMD and EMIR are only the first pieces of the substantial re-regulation that lies ahead, with the implementation of MiFID II and PRIIPs still to come.
4 Directive 2002/47/EC of the European Parliament and of the Council of 6 June 2002 on financial collateral arrangements.
5 Recitals 5, 14 and 18, Article 7, paragraph 1 of the EC Financial Collateral Directive.
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Chapter 11
INDIA
Vishnu Dutt U 1
I INTRODUCTION
Since the liberalisation of the Indian economy in 1991, the Indian capital market has grown substantially. Over time, it has proved to be one of the fastest-growing and most resilient global markets.
In financial year 2014–2015, the vast majority of equity capital raised was through qualified institutional placements (284.29 billion rupees) and offers for sale (OFS) made by promoters (principal shareholders) of listed companies through stock exchanges (269.35 billion rupees).2 The largest OFS in 2014 was that of Coal India Limited, a government company, which at 224 billion rupees3 accounted for 83 per cent of the amount raised through OFS in India. Further divestments by the government are on the anvil for the current financial year.
The number of initial public offerings (IPOs), however, remained relatively low, with only eight new companies accessing the capital markets through IPOs. In fact, IPOs accounted for less than 5 per cent of the total equity capital raised in 2014–2015.4 Additionally, no listed company elected to raise capital through a follow-on public offer.
1 Vishnu Dutt U is a partner at Bharucha & Partners. The author would like to thank Anurag Shrivastav, associate, for his assistance in the preparation of the chapter.
2 Economic Times, Companies raise Rs.58,801 crore via equity markets in FY’15; QIPs a big hit – 31 March 2015, http://articles.economictimes.indiatimes.com/2015-03-31/news/60682114_1_qip-route-sme-platform-muthoot-finance.
3 Business Standard, Coal India 10% stake sale fully subscribed; Govt garners Rs 22,400 cr, www.business-standard.com/article/markets/coal-india-10-stake-sale-fully-subscribed-115013000864_1.html.
4 In total, 27,690 million rupees was raised through IPOs in 2014–2015.
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On the debt front too, public issues were disappointing with approximately 94.22 billion rupees being raised, which is much lower than the previous financial year. On the other hand, listed bonds issued on a private placement basis aggregated 4,041.38 billion rupees, significantly higher than the previous financial year.
i General introduction to the legal framework for capital markets
The principal statutes governing the capital markets in India are the Companies Act, 2013 (the Companies Act), the Securities Contract Regulation Act, 1956 (SCRA), the Securities and Exchange Board of India Act, 1992 (the SEBI Act) and the various rules and regulations made thereunder.
The Companies Act is the fundamental statute which empowers a company to issue securities. The SCRA regulates the functioning of stock exchanges and prescribes listing requirements including stipulating minimum public shareholding norms. The SEBI Act established the Securities and Exchange Board of India (SEBI) as the securities market regulator to protect the interests of investors in securities and to promote the development of the securities market.
Investments in the Indian securities markets by non-resident investors are governed by the Foreign Exchange Management Act, 1999 (FEMA). The Reserve Bank of India (RBI), India’s central bank, regulates foreign investment through various regulations and notifications.
Under the SEBI Act, powers of a civil court have been vested upon SEBI to resolve capital market disputes. SEBI may either suo motu or on a complaint, investigate any matter concerning a listed company or its promoters or any other person associated in the capital markets and may take action against such persons (e.g., levy penalties, prohibit such persons from accessing the capital market, suspend the company’s securities from trading on the stock exchanges or even sentence the offenders to imprisonment).
Apart from adjudication of disputes, SEBI, being the market regulator, also plays the role of a guide. SEBI has introduced a concept of ‘informal guidance’ where any person who has a question regarding the interpretation of the law relating to capital markets or wishes to get SEBI’s affirmation to any proposed transaction may write to SEBI seeking guidance or clarification. SEBI then responds in writing with its views. While the views given by SEBI are informal and do not establish precedent, they do indicate the regulator’s perspective.
The appellate authority from a SEBI ruling is the Securities Appellate Tribunal (SAT). The Supreme Court is the apex court and the court of final appeal.
Historically, SEBI has been extremely protective of retail investors, mostly as a result of the lack of investor awareness in India. SEBI’s regulatory policy continues to be centred on protection of retail investors.
While SEBI’s approach to regulating the market is commendable, there are occasions where SEBI’s investor-friendly policies create hurdles and, consequently, curtail capital market activity. Until early 2013, Indian courts (under the Companies Act, 1956 (the 1956 Act)) had sole jurisdiction to sanction or reject a merger of companies where there were no antitrust issues involved. However, by its circulars of February and May 2013, SEBI has sought to usurp some of the courts’ powers by insisting that all schemes of merger of listed companies be run past SEBI before any application
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for approval is made to the courts and that its observations are made known to the court. This was presumably to protect the interests of retail investors although this is a somewhat confusing step to take given that all mergers in India are subject to review by the courts. SEBI’s new merger norms have not only resulted in the merger process being lengthened but in one case has caused a company to discard its merger proposal based on SEBI’s observations.
II YEAR IN REVIEW
i Developments in capital markets
Some of the key developments in capital markets in 2014–2015 are outlined below.
Companies ActThe Companies Act is a recently enacted legislation which has, for the most part, replaced the erstwhile 1956 Act.5 The Companies Act, unlike its predecessor, contains detailed provisions for regulation of the capital markets. This has resulted in a multiplicity of rules and regulations governing specific aspects of the capital markets. Illustratively, in addition to complying with SEBI’s extensive regulations and the relevant foreign exchange norms, Indian companies seeking to issue listed securities must also comply with the rules prescribed under the Companies Act. Unfortunately, the onerous compliance norms under the Companies Act remain even where SEBI has exempted listed companies from complying with the regulations (e.g., when a listed company issues shares to its lenders as part of a debt restructuring scheme).
A company proposing to make an IPO of its shares or convertible securities must, in addition to complying with the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 20096 (the SEBI ICDR Regulations) also comply with the Prospectus Rules which mandate various additional disclosures including:a a report of a chartered accountant on the financials (for five years preceding the
date of the prospectus) in case of certain acquisitions of shares or business that are financed by funds from the public issue proceeds. In addition, where the issue proceeds are proposed to be used for the acquisition of the shares of a company, the report must also set out the impact on the acquirer;
b details (pertaining to the issuer and its subsidiaries) of any inquiry, inspection or investigation under company law and the fines imposed or offences compounded in the five years preceding the filing of the prospectus;
c the source of funds of the promoter’s contribution to the issue; and d details of material frauds committed against the issuer in the five years preceding
the filing of the prospectus and the action taken by the issuer in respect of these.
5 Certain keys aspects of company law such as mergers and demergers, however, are still governed by the 1956 Act.
6 There are separate norms regulations governing issue of debt capital and non-convertible redeemable preference shares.
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While the rules under the Companies Act do not make listing unviable, the additional disclosure norms make compliance more onerous and cumbersome.
In addition to public offers, the Companies Act also regulates private placement of securities (i.e., issue of securities to up to 50 persons other than qualified institutional buyers (QIBs) and employees entitled to shares under a stock option scheme). The exemption to QIBs and employees was not available under the 1956 Act, which provided that any issue of securities to more than 49 persons would be a public issue.
The rules prescribed under the Companies Act also specifically deal with the issue of depository receipts.7 These rules are in addition to the Depository Receipts Scheme, 2014 (the DR Scheme)8 promulgated by the government of India, which deals with the foreign exchange aspects. The most significant change, potentially, though, is in respect of the penalties for an untrue statement in a prospectus.9 Now any person who makes a statement in a prospectus that is false in any material respect (knowing it to be false) or omits any material fact in a prospectus (knowing it to be material) is liable to be punished with a minimum imprisonment of six months and a maximum of up to 10 years, in addition to a fine of not less than the amount involved and subject to maximum of three times the amount involved. Further, where such fraud involves a question of public interest the Companies Act prescribes a minimum imprisonment of three years. While generally proceedings against errant companies have been taken under the SEBI framework, the stringent nature of the penalties under the Companies Act may likely see investors seeking recourse under the Companies Act.
SEBI ICDR RegulationsOffers for saleOne of the criteria for an offer for sale under the SEBI ICDR Regulations was that the seller must have held the securities on offer for at least one year prior to filing the draft offer document with SEBI. SEBI has now clarified that sellers may sell the securities issued under a bonus issue even where these have been held for a period of less than one year provided the original securities satisfy the one-year criteria.
WarrantsWarrants have been a prickly issue in India with various uncertainties plaguing these instruments. The uncertainty was exacerbated by the divergence in the SEBI and the FEMA norms pertaining to the receipt of upfront payment and tenure of warrants. This
7 Section 41 of the Companies Act; the Companies (Issue of Global Depository Receipts) Rules, 2014 (the Deposit Rules) prescribe the form, manner and the conditions for the issue of depository receipts.
8 The DR Scheme is dealt with later in the chapter.9 Under the 1956 Act, every person who authorised the issue of the prospectus (a rebuttable
presumption) including the promoter and the directors were liable to compensate every person who subscribed to the securities. Further, the 1956 Act also made every person who authorised an untrue statement in a prospectus liable to be punished with imprisonment of up to two years and a fine of up to 50,000 rupees.
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was remedied on 23 March 2015 when SEBI amended the SEBI ICDR Regulations. Therefore, now:a warrants issued through a public issue or rights issue cannot have a tenure
exceeding 18 months (increased from 12 months);b the price or conversion formula of such warrants must be decided upfront; andc at least 25 per cent of the consideration must be received upfront.
SEBI (Issue and Listing of Debt Securities) Regulations, 2008 The SEBI (Issue and Listing of Debt Securities) Regulations, 2008 (the SEBI ILDS Regulations) govern the public issue and private placement of listed debt in India. One of the criticisms of the SEBI framework on debt securities was the lack of an express provision permitting call and put options. SEBI has remedied this by specifically setting out the conditions under which call and put options will be permissible. Accordingly, call and put, either in part or full, are permitted after 24 months from the date of issue of the securities. Further, the call or put option may be given to all investors or only retail investors (i.e., holders of securities with a face value not exceeding 200,000 rupees).
The Indian debt markets have also historically lacked the depth of equity markets. One of the reasons attributed for the lack of depth was the inability of issuers to consolidate and reissue debt securities. The SEBI ILDS Regulations have been amended to rectify this perceived flaw. By enabling the consolidation and reissuance of debt securities, illiquid and infrequently traded corporate bonds can be reissued, thereby creating a larger floating stock and, consequently, increasing the liquidity in the debt markets.
FPI RegulationsAlthough SEBI has been seeking to encourage the development of the debt markets, the RBI has recently imposed certain restrictions on foreign portfolio investors (FPIs). Hitherto, FPIs were permitted to invest in corporate debt without any minimum residual maturity thresholds. On 3 February 2015, the RBI stipulated that all future investments in corporate debt by FPIs must be in instruments with a minimum residual maturity of three years. The RBI, subsequently, also clarified that the restriction would apply to instruments with a call or put option exercisable prior to three years. The only alleviating factor is that debt securities may be freely transferred by FPIs to domestic investors. SEBI has also issued a circular along similar lines.
Investment by FPIs in debt securities plummeted from 207.69 billion rupees in January 2015 to 40 million rupees in July 2015.10 Given the global turmoil, it is uncertain whether the decrease was due to the new restrictions or otherwise.
On a heartening note for FPIs and the equity markets, though, the government has introduced composite foreign investment caps and granted general permission to FPIs to invest up to 49 per cent in all permitted sectors without prior government approval and without satisfying sector-specific conditions. The introduction of a composite foreign investment cap has abolished the long-standing dichotomy between foreign direct
10 https://www.fpi.nsdl.co.in/web/Reports/Yearwise.aspx?RptType=6.
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investment and FPI thresholds. This change is expected to significantly increase FPI investment in the equity markets.
Depository receiptsOver the years, depository receipts have been one of the preferred instruments of Indian companies while accessing global markets. While the past decade witnessed a large number of depository receipt issuances, the global recession in the latter part of the decade and the more recent turmoil in the global markets have resulted in a significant drop in such issuances. In fact, 2014 saw only one depository receipt issue.
The Indian depository receipt regime was, until 2014, governed by the Issue of Foreign Currency Convertible Bonds and Ordinary Shares (Through Depositary Receipt Mechanism) Scheme, 1993. In October 2014,11 the government of India promulgated the DR Scheme, which repealed the provisions of the erstwhile scheme insofar as they related to depository receipts.
In a significant departure from the previous regime, the DR Scheme throws open the depository receipt route to unlisted and private companies, in addition to listed companies, and any person holding permitted securities. Holders of permitted securities can access the international markets without recourse to the issuer company.
Some of the salient features of the DR Scheme are set out below:a the aggregate of securities that may be issued or transferred for the purpose of
issuing depository receipts has been brought in sync with the foreign holding thresholds under FEMA;
b issuer companies may issue securities through public issue, private placement or any other permissible mode. This broadens the scope of the regime since a listed company can now make a qualified institutions placement of securities for the purpose of issuing depository receipts; and
c the price of permissible securities issued to a foreign depository for the purpose of issuing depository receipts may not be lower than the price applicable to a corresponding mode of issue to domestic investors.
Also, an issuer or transferor of securities for the issue of depository receipts need obtain only such approval as is required for an issue of securities; no separate approval is required from any authority for a depository receipt issuance.
However, as has been the case with a number of other recent reforms, the spanner in the works is the tax ambiguity. The Finance Bill, 2015 recognises only the older form of depository receipts (i.e., issued against equity shares of companies). This brings into question the tax treatment where the underlying security is not an equity share of a company or where the underlying shares have been transferred by a shareholder to the depository for issuance of depository receipts. Therefore, at present, a non-resident who has sold depository receipts which are issued against permissible securities not being equity shares where the underlying securities have been issued by the company, or issued against permissible securities including equity shares where the underlying securities are
11 The new Scheme was promulgated on 21 October 2014 with effect from 15 December 2014.
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transferred to the depository for the issue of depository receipts, may be liable to capital gains tax. Also, any dividend that accrues to such non-resident is potentially liable to tax.
Insider tradingThe SEBI (Prohibition of Insider Trading), Regulations 201512 (the Insider Trading Regulations) depart significantly from the erstwhile regulations on two major fronts. First, simply communicating, providing access to or procuring unpublished price-sensitive information (UPSI) is now prohibited, subject to certain specified exceptions. On the other hand, communicating, providing access to or procuring UPSI in connection with an acquisition is permitted where the board of directors of the company of the target is of informed opinion that the proposed transaction is in the best interests of the company and, in the case of an acquisition which does not require a public offer to be made to the existing shareholders the information provided to the acquirer is disseminated to the public at least two trading days prior to the transaction being effected.
In the past, the inability of an Indian listed company to disclose non-public information was a significant stumbling block while dealmaking and drafting share purchase or subscription agreements. The permissibility of disclosing UPSI to an acquirer will make drafting contracts easier and will obviate the need to mask the information provided. Acquirers will be better placed to require disclosure and to put in necessary safeguards into contracts to protect their interests.
Secondly, the Insider Trading Regulations introduce the concept of a trading plan. A trading plan allows an insider to undertake certain predetermined and pre-approved transactions from the formulation of the plan. Ideally, the trading plan, subject to certain conditions, will permit the top management of companies (who may be expected to be in possession of UPSI on a regular basis) to undertake transactions in the securities of their company even while in possession of UPSI since such a transaction would have been predetermined and, therefore, uninfluenced by the UPSI. Based on our interactions with senior level management of listed companies, the trading plan appears to be impractical primarily because it is irrevocable and does not allow the insider to digress therefrom for any reason.
The main criticism of SEBI is that its regulations are, generally, ambiguously worded and leave a lot of room for discretion. The Insider Trading Regulations follow the general trend with ambiguously worded provisions and notes on regulations which not only explain the regulatory intent but also broaden the scope beyond the actual regulation. SEBI has already been compelled to issue clarifications to aid understanding of the regulatory intent.
The recent guidance note issued by SEBI on 24 August 2015 clarifies that simply creating or invoking a pledge of securities would be considered a trade of securities. Therefore, an entity creating or invoking a pledge while in possession of UPSI must, if asked, demonstrate its innocence by proving that such an action was bona fide. The clarification is useful, though, because there were genuine concerns on the impact on
12 The regulations were notified on 15 January 2015 with effect from 15 May 2015.
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genuine financing transactions where the security was a pledge of securities. With this clarification genuine transactions should continue unhindered.
ii Cases and dispute settlement
Sahara Two companies of the Sahara India group – Sahara India Real Estate Corporation Limited (SIRECL) and Sahara Housing Investment Corporation Limited (SHICL, and together with SIRECL, the Sahara Companies) – offered optionally fully convertible debentures for subscription. While the offer was purported to be made as a ‘private placement’,13 it was, in fact, made over a period of time to approximately 30 million investors. SEBI held that the offer was, in fact, a public issue masquerading as private placement and directed the Sahara Companies to refund the subscription monies with interest and also restrained the promoters of the Sahara Companies from accessing the securities market. On appeal the SAT confirmed SEBI’s order. The Sahara Companies approached the Supreme Court of India on special leave against the SAT order.
The Supreme Court held that the transaction was a public issue and that the Sahara Companies ought to have complied with, inter alia, the SEBI ICDR Regulations. The Supreme Court also ordered the Sahara Companies to refund the subscription monies (approximately US$3 billion) with interest. Sahara is yet to repay a significant portion of the monies and, as things stand, Mr Subrata Roy, the group chairman, is in prison for violating the court’s orders.
DLF In October 2014, SEBI passed an order debarring DLF Limited (DLF), certain directors and its chief financial officer from accessing the securities market and prohibiting them from dealing in securities for the period of three years for active and deliberate suppression of material information in its IPO offer document.
DLF had filed a draft red herring prospectus with SEBI in January 2007 for an IPO and, subsequently, in May 2007 it filed its red herring prospectus with SEBI and the prospectus with the concerned Registrar of Companies. It was alleged that the offer documents omitted to include material information regarding its subsidiaries.
DLF submitted that it had disposed of its entire shareholding in the subsidiaries to third parties and, consequently, no disclosure was warranted. SEBI, however, observed that the shares were transferred to the wives of DLF’s officers and the funds with which the shares were acquired by the purchasers were also provided by DLF. SEBI, therefore, held that the transfer of shares was not genuine and that DLF continued to be in control despite apparent divestment. Accordingly, SEBI held that DLF made incomplete and incorrect disclosures in the offer documents with the intention of defrauding investors.
On appeal, SAT by a majority order of March 2015 set aside SEBI’s order. The appellate tribunal held that the transfer of shares was legal and that DLF’s control over its erstwhile subsidiaries could not be established within the parameters of the existing
13 The then prevailing law recognised an offer to more than 49 persons as a public issue; an issuer making a public issue of securities must comply, among others, with the detailed disclosure requirements stipulated in the SEBI ICDR Regulations.
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laws. SEBI, it held, had also failed to establish that DLF was participating either in the financial or operating policies of its erstwhile subsidiaries.
SEBI has appealed the decision to the Supreme Court of India.
iii Stock exchanges and central counterparties
In India, stock exchanges, in addition to facilitating the issue and sale of securities, are also a key medium for the dissemination of information pertaining to listed companies. Stock exchanges are governed by the SCRA and are empowered to make and enforce rules, regulations and by-laws to regulate their operations. Indian stock exchanges follow a T+2 settlement cycle.
The BSE Limited (BSE), one of Asia’s oldest stock exchanges, and the National Stock Exchange of India Limited (NSE) having nationwide trading terminals are the primary stock exchanges in India.14 In 2014–2015, the S&P BSE Sensex and the CNX NSE Nifty, India’s bellwether indices, grew by over 24 per cent.
Currently, different stock exchanges have their own clearing corporations, which handle settlement of trades on the respective bourses. SEBI had constituted an expert committee to, inter alia, examine the viability of a single clearing corporation or the interoperability between existing clearing corporations and allied issues. The Committee has recommended that it would be prudent to maintain separate clearing corporations until certain criteria are met.15
iv Developments in the current financial year
The developments in the current financial year are briefly discussed below. The impact of these amendments is yet to be ascertained.
Fast-track issuesIn August 2015, SEBI revised the threshold limits for a listed company to make a fast-track issue16 of securities. The earlier threshold average market capitalisation of public shareholding of 30 billion rupees has been revised:a in the case of a further public offering to 10 billion rupees; andb in the case of a rights issue to 2.5 billion rupees.
SEBI has, of course, built-in additional safeguards to ensure that only credible issuers will be able to access this route.
Institutional trading platformIndia has witnessed a sharp rise in the number of start-ups in recent times. Start-ups have been in discussions with SEBI to permit them easier access to funds. Acceding to
14 The equity market capitalisation of the companies listed on the BSE and the NSE, as on 31 March 2015, was 101,492 billion and 99,301 billion rupees, respectively.
15 SEBI PR No. 225/2015.16 An issuer is permitted to make an issue without filing a draft offer document with SEBI; a
fast-track issue significantly reduces the time frame of an offering.
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these requests, SEBI recently permitted start-ups to access the capital markets and list their securities without making a public offer. The applicable norms stipulate, inter alia, that at least 25 per cent of the issuer’s paid-up capital must, prior to the issue, be held by qualified institutional buyers (in case of entities which are technology intensive; and 50 per cent in other cases). Further, no person including the promoter of the issuer may hold 25 per cent or more of the issuer’s post-issue paid-up capital. The viability of the route given the stringent shareholding strictures is uncertain.
Group companySEBI has aligned the definition of group companies, for the purposes of disclosure in offer documents, with applicable Indian accounting standards.
Securitised debt instrumentsBanks and public financial institutions have been permitted to act as trustees in issues of securitised debt instruments without prior registration with SEBI. Such entities must, however, satisfy certain eligibility criteria including a minimum net worth of at least 20 million rupees.
Issue of debt securities by municipalitiesSEBI has introduced regulations for the issue and listing of revenue bonds by municipalities.17 The issuer must satisfy certain prescribed eligibility criteria pertaining to net worth and repayment of debt. The bonds must have a minimum tenor of three years and a maximum of 30 years. These bonds are expected to fund infrastructure projects throughout the country.
III OUTLOOK AND CONCLUSIONS
The fundamentals of the Indian economy appear strong and the resilience of the Indian markets can be gauged by the recovery of the market despite the depreciation of the rupee and the recent turbulence in global markets. SEBI’s recent reforms also augur well for the markets.
The euphoria associated with the BJP-led government is slowly wearing off and the expected slew of economic and regulatory reforms, particularly in areas of land acquisition and labour, has not yet materialised. That said, the ‘Make in India’ campaign, which is expected to make India a global manufacturing hub, and the anticipated investments in the infrastructure sector companies, should provide a fillip to the capital markets. Also, while the uncertainty continues around the tax regime, the government seems committed to providing a friendly tax environment for doing business in India.
17 A municipality is the local governing body constituted under the Constitution of India.
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Chapter 12
INDONESIA
Yozua Makes1
I INTRODUCTION
Indonesia joined the rest of Asia and the world in the turbulent economic crisis of 2015. China’s market slump, the US dollar’s fastest rise in 40 years, and the downward pressure on low commodity prices, were all external conditions that overwhelmed Indonesia’s resilient economic growth. In early July 2015, the World Bank cut its forecast for economic growth in Indonesia in 2015 from 5.2 per cent year-on-year to 4.7 per cent year-on-year. Nearing fourth quarter of 2015, these numbers were expected to further weaken as private consumption (which accounts for about 55 per cent of total economic growth) and government spending had been lower than expected. Persistent low commodity prices provided further pressures that led to the downward revision. The Indonesian currency, the rupiah, reached an alarming level of 14,200 rupiah to US$1.00 in September 2015. The rupiah dropped 10 per cent more against the US dollar in 2015 alone, the lowest in 17 years, and was South East Asia’s worst performing currency after Malaysia’s ringgit.
Short-term, necessary measures were placed as an immediate response to the crisis. To smoothen stock market fluctuations, the Indonesian Financial Service Authority (OJK) issued OJK Circular Letter No. 22/SEOJK.04/2015 dated 21 August 2015 allowing issuers to buy back their own shares without requiring them to obtain approval from a general meeting of shareholders (GMS). This measure aimed to enhance the rules enacted back in 2008 and 2013. The Indonesian Stock Exchange (IDX) also issued a policy that automatically suspended stock trading where price drastically falls within a day, to prevent panic selling.
Two major events shaped the IDX composite index during the end of 2014 to mid-2015. In addition to the potential crisis as described above, the presidential and
1 Yozua Makes is senior partner at Makes & Partners Law Firm.
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parliamentary election in mid-2014, and the subsequent formation of the ministerial members, influenced the political climate and investors’ trust, and therefore affected the stock market. The composite index rose consistently during the election period, from 5.093 in July 2014 to 5.226 at the end of 2014 when the newly elected President announced the new composition of the ministers. It still went strong to 5.518 in March 2015, but since then the price went downwards following the regional financial recession. Until August 2015, the index went back to a slightly higher level than the opening of 2013, which demonstrated the market’s struggle in coping with the economic slowdown.
2015 also saw discussions to design and regulate new instruments that were to be traded in the financial market. OJK issued OJK Rule 9/POJK.04/2015 on the Guidance of Repurchase Agreement (Repo) Transactions for Financial Service Institutions, to regulate warrants for repo transactions of publicly traded stocks. The rule asserts that a repo transaction must constitute ownership transfer, and it also requires the use of a standardised mandatory written agreement. Other new products currently being developed include a bond index, Indonesia government bond futures, local government bonds, and a proposed specialised market for SMEs aiming for listing.
II THE YEAR IN REVIEW
i Developments affecting general rules on securities law
Capital market in general The existence of a capital market has been a significant part of Indonesia’s economic growth since the 1980s. The milestones of capital market legal development in Indonesia are the post-independence reactivation, the deregulation policy of 1987–1988, the enactment of Law No. 8 of 1995 on the Capital Market (Law 8/1995), and regulations enacted after the 1997 financial crisis that focus on advancing principles of good corporate governance. In 2007 the Jakarta Stock Exchange and the Surabaya Stock Exchange merged to become the country’s sole stock exchange, the IDX.
Law 8/1995 was the first attempt at establishing a solid and modern legal foundation to the Indonesian capital market in response to the global market and the more sophisticated development of the global capital market industry. Two government regulations were enacted to equip the Law with operational procedures, namely Government Regulation No. 45 of 1995 on the Operation of Capital Market Activities (PP 45/1995) and Government Regulation No. 46 of 1995 on Capital Market Investigation (PP 46/1995). Law 8/1995 introduced new concepts, which are still relevant and apply at present. Bapepam-LK (now OJK) enacted extensive regulations to further implement the Law through technical regulations. In addition to OJK as the regulatory and supervisory authority, the Indonesian capital market also recognises three self-regulatory organisations as corporations with particular authority and rule-making capacities, namely the stock exchange (IDX), the central securities depository (KSEI) and the clearing and guarantee institution (KPEI).
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Public companies, public offerings and disclosure rulesIndonesian companies must comply with securities regulations if they are considered as public companies or issuers. A public company is one that has at least 300 shareholders and a paid-in capital of at least 3 billion rupiah, or such other number of shareholders and paid-in capital that may be stipulated in government regulations. In addition, when a company conducts a public offering, it will be considered as an issuer subject to the securities law regime. A public company or an issuer is required to obtain a registration statement from the IDX and OJK before it becomes eligible to carry out actions within the capital market. To do so, extensive information must be disclosed and submitted to OJK and made available to the public for this purpose. This information is contained in the prospectus and, along with other documents, forms part of the registration statement for the public offering, as detailed in, among others, Bapepam-LK Rule IX.A.1, IX.C.1, and IX.C.2.
After the registration statement of a public company or issuer has been deemed effective, the company or issuer will have to comply with securities regulations and will be under OJK supervision, especially with regard to the disclosure principle. This principle is the general guideline that requires an issuer or a public company to disclose to the public within a certain time material information in respect of their business or securities when such information may influence decisions of investors in such securities, or the price of the securities. In this case, materiality is an important concept in the disclosure rule. According to Article 1, point 7 of Law 8/1995, material information is any important and relevant fact concerning events, incidents or data that may affect the price of a security on an exchange or that may influence the decisions of investors, prospective investors or others that have an interest in such information.
Mandatory disclosure is implemented by various rules, including mandatory financial statements and annual reports, disclosure of the use of funds appropriated from an IPO and corporate actions that trigger an IPO.
Pursuant to Bapepam-LK Rule X.K.1 on Disclosure of Information that Must be Made Public Immediately, a public company or issuer with an effective registration statement must submit to Bapepam-LK (now OJK) and announce publicly any new material fact or information that may affect the corporate or securities value or affect investors’ decisions, no more than two days after its occurrence. Pursuant to the same rule, Bapepam-LK issues a general list of events or transactions that trigger disclosure requirements for issuers and public companies. The regulation lists the following material facts as a basis for disclosure:a a merger, consolidation, takeover, or formation of a joint venture;b a stock split or dividend distribution;c an irregular dividend increase;d the gain or loss of an important contract;e a significant new product or innovation;f a change in control or significant change in management;g a call for the purchase or redemption of debt securities;h the sale of a material amount of securities to the public or in a limited manner;i a purchase, or loss from the sale, of a material asset;j a relatively important labour dispute;
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k any important litigation against the company or the company’s directors or commissioners;
l an offer to purchase securities of another company;m the replacement of the accountant who audits the company;n the replacement of the company’s trust agent; ando a change in the company’s fiscal year.
There are also disclosure requirements for certain shareholders, as stated under Bapepam-LK Rule X.M.1. Directors, members of the board of commissioners and shareholders holding more than 5 per cent ownership of an issuer or a public company must disclose to OJK and the public any change related to such ownership no later than 10 days after the transaction that causes such a change.
Pursuant to the mandatory disclosure rule, and also in accordance with the IDX rule, the company is obliged to make the information publicly available and to submit it to the IDX and OJK. In practice, this requirement is carried out by the securities custodian handling the company’s shareholder register. This public announcement is made either through the electronic trading system (Jakarta Automated Trading System), published on the company’s website or announced on the trading floor.
Material transactionsThe regulation on material transactions is significant because it covers a wide range of transactions that fall within the scope of the regulation. The first regulation was enacted in 2001 and amended in 2009. However, after receiving heavy criticism for the uncertainty it had created, the regulation was amended further in 2011. Below are crucial issues that trigger regulatory changes from time to time in Indonesia.
According to the 2011 regulation, a ‘material transaction’ is defined as participation in a company, project or any business; purchase, sale, transfer, asset swap, or business swap; asset lease; loan; provision of asset collateral; or provision of corporate guarantee with a value equivalent to more than 20 per cent of the company’s equity, either in one transaction or in a series of transactions for one specific purpose. A similar definition was adopted in the second 2009 regulation but with the addition of a ‘purchase of shares for the purpose of takeover and share disposal’. The two actions are no longer mentioned in the regulation, even though the 2011 regulation does not make a distinction between share and non-share assets with regard to the definition of ‘material transaction’. Further detailed provisions in the 2011 regulation express that a purchase of shares (or share disposal for that matter) is considered a material transaction.
The first 2001 regulation provides an option to determine material transactions (i.e., from the company’s revenue (10 per cent) or from the company’s equity (20 per cent)). Because of the unifying basis of company equity, it becomes less ambiguous to determine whether a material transaction has occurred or not. Compared with the 2001 regulation, the 2009 and 2011 regulation provide a clearer method to determine 20 per cent of equity, which will be based on the most recent of the audited annual financial statement, the mid-term financial statement with certified public accountant (CPA) report or the audited mid-term financial statement. The first 2001 regulation did not mention any method to determine the 20 per cent equity, or 10 per cent of revenue.
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The currently prevailing 2011 regulation provides clear and separate guidelines on disclosure. A company carrying out a material transaction with a transaction value of between 20 and 50 per cent of the company’s equity is not required to obtain GMS approval but is required to disclose the information to the general public no later than two days after the signing of the agreement containing the material transaction. When a material transaction is worth more than the equivalent of 50 per cent of the company’s equity, GMS approval is required.
Affiliated and conflict of interest transactionsRegulation of affiliate transactions and conflict of interest (COI) transactions, governed under Bapepam-LK Rule IX.E.1, serves a pivotal role in safeguarding public shareholders and market integrity in the Indonesian capital market. The idea is to empower minority shareholders with actions they can take, informed feedback or other methods to protect their interests. The first regulation concerning affiliate and COI transactions was enacted in 1997 and, following the effort to reform good corporate governance in Indonesia, a regulation was enacted in 2000. In 2008, the regulation was amended, but the new regulation received heavy criticism for its failure to provide clearer legal certainty. The prevailing regulation, dated 2009, is more acceptable and provides better guidelines regarding the issue.
The Indonesian regulation adopts a distinction between ‘affiliate transaction’ and ‘COI transaction’. According to the latest 2009 regulation, a COI is a ‘difference between the economic interest of a company and the personal economic interest of a director, a member of the board of commissioners, or a major shareholder of the company in a transaction that may inflict a financial loss upon the company’. This is a simplification of the previous 2008 rule that defines COI as a ‘difference between the economic interest of a company and the personal economic interest of a director, member of the board of commissioners or a major shareholder of the company in a transaction that may inflict financial loss upon the company because of unfair pricing’. However, the ‘fair-pricing requirement’ was eliminated in the most recent regulation due to the difficulty in assessing the ‘fair price’. An ‘affiliate transaction’ is defined as a transaction between the company, or a company under its control (controlled company), and an affiliate of either the company or an affiliate of the director, member of the board of commissioners or a major shareholder of the company. The previous 2008 regulation defined ‘affiliate transaction’ as a transaction between the company and its affiliate. Therefore, the currently prevailing definition covers a broader range of affiliates to include affiliates of a controlled company.
Affiliate and COI transactions are subject to two different requirements. An affiliate transaction may not necessarily have an adverse impact on the company. Therefore, the requirement is only limited to disclosing the transaction to the public, without requiring the company to obtain the approval of independent shareholders. Meanwhile, a COI transaction may be either an affiliate transaction or a non-affiliate transaction, but the benchmark for assessment is the difference in economic interest. An affiliate transaction may also be a COI transaction, in which case the applicable regime is the COI rule, not the affiliate transaction rule. In the event of a COI transaction, the regulation requires the company to obtain assessment and approval from the independent shareholders. An independent shareholder is defined as a shareholder that does not have any COI
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with respect to the particular transaction or that is not an affiliated party of a director, a commissioner or major shareholder that has a COI in the transaction.
To proceed with an affiliate transaction, an issuer or public company must first obtain a fairness opinion from an independent appraiser and submit the transaction to OJK, and announce it to the public within two business days after the date of the transaction. There is, however, no requirement to obtain approval from independent shareholders. There are basically two types of exceptions for affiliate transactions: one from having to engage an independent appraiser (but it is still disclosed), and an exception from engaging an independent appraiser and from having to disclose. For a COI transaction, there is a requirement to first obtain approval from independent shareholders. This approval is carried out by a majority decision (more than 50 per cent) of an independent GMS.
ii Developments affecting debt and securities offerings
Debt (bond) and equity (shares), both corporate and government, are traded on the IDX either by outright continuous auction or on the negotiated board, known together as the centralised trading platform (CTP) as well as over the counter (OTC). The OTC equity market is unregulated, but may be settled in the Indonesia Central Securities Depository (KSEI) system. All bond transactions, even OTC, are to be reported to CTP in accordance with Bapepam-LK rules. The following are rules closely related to corporate actions carried out by issuers.
Rights issuePursuant to Bapepam-LK Rule No. IX.D.1 on Rights Issue (Pre-emptive Rights), it is possible for a publicly listed company to make additional public offerings, issue warrants or convertible securities to raise additional funding and thus increase the number of shares traded in the stock market. In such an event, the existing shareholder holds a pre-emptive right to purchase the new securities – including shares, convertible securities and warrants – before they are offered to the public, proportionate to the number of currently held shares. Such a right is transferable and thus, if the existing shareholder does not plan to exercise its right, it can be sold into the market.
There is also a method to increase the raising of additional funds from the public by issuing new shares but without granting pre-emptive rights to existing shareholders. In this event, pursuant to OJK Rule No. 38/POJK.04/2014 on Increases of Capital Without Preemptive Rights, disclosure is required for the purpose of GMS preparation, and also public announcement before and after the execution of a capital increase without pre-emptive rights. Capital increase of the public company without pre-emptive rights for the purpose of improving its financial position can be done as long as it meets the following conditions:a the public company is a bank that receives a loan from Bank Indonesia or
other government agencies of more than 100 per cent of the paid-up capital or other conditions that can lead to the restructuring of the bank by government authorities;
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b a non-bank public company that has a negative net working capital and has liabilities exceeding 80 per cent of the assets of the public company at the time of the GMS which approved the capital increase without pre-emptive rights; or
c the public company could not meet its financial obligations at maturity to unaffiliated lenders where the unaffiliated lenders agree to receive shares or convertible bonds of the public company to settle the loan.
Capital increase of the public company without pre-emptive rights for purposes other than to improve its financial position can only be conducted in respect of at most 10 per cent of the paid-up capital of the amendment of the articles of association and having been notified as well as received by the Minister of Law and Human Rights in charge at the time of the announcement of the GMS, with the following provisions:a capital increase of the public company without pre-emptive rights in the other
context of a share ownership programme is conducted within two years from the GMS concerning capital increase of the public company without pre-emptive rights in question; and
b capital increase of the public company without pre-emptive rights in the context of a share ownership programme is conducted within five years from the GMS concerning capital increase of the public company without pre-emptive rights in the context of the share ownership programme in question.
In summary, there are restrictions limiting availability of a capital increase without pre-emptive rights to a certain amount or when the company is in financial distress.
Takeover, mandatory tender offer and voluntary tender offerTakeover, or change of control of a company, is governed under Bapepam-LK Rule No. IX.H.1. A takeover (or acquisition of a publicly listed company) in general corporate legal terms affects the interests of various parties, including creditors, public shareholders or employees. The Regulation IX.H.1 that was enacted in 2008 stipulated the definition of a controlling shareholder, and this prevails in the present regulation: any person that owns 50 per cent of a company’s paid-up shares or more, or any person that directly or indirectly has the ability to determine in any way whatsoever the management or policy of the public company. A takeover triggers a mandatory tender offer (MTO), in which other shareholders, whose shares are not acquired, must be given the right to sell their shares to the new controlling shareholders to uphold the principle of fairness. An MTO must follow various rules, including the reporting requirement to OJK and the setting of the price for the MTO.
There are several exemptions to the MTO obligation including, among others, to shares owned by a shareholder that has made another takeover transaction with the new controller of that company; shares owned by any other person that has already made an offering with similar terms and conditions as those of the new controller of that company; shares owned by substantial shareholders or shares owned by other controllers of that company.
There are various important issues governed by Bapepam-LK Rule No. IX.H.1. Price formulation is a main issue in the Indonesian MTO rules. The price of an MTO is essential because the public must receive the same price as that which the acquirer
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offered to the controlling shareholder. The 2008 rule and the prevailing 2011 version of Bapepam-LK Rule No. IX.H.1 state that the MTO price is to be set higher than the average of the highest daily trading prices on the IDX within the 90-day period before the announcement of the MTO or before the negotiation concerning the takeover deal is publicly announced.
The mandatory sell-down to maintain free-float shares is a controversial stipulation of Bapepam-LK Rule No. IX.H.1. The 2008 version of the rule introduced a new obligation to resell shares to maintain the availability of float shares in the event of a takeover that triggers an MTO. Under the 2008 Regulation, when a takeover, or an MTO following a takeover, results in the new controller owning more than 80 per cent of the company’s shares, the new controller must transfer or float at least 20 per cent of the shares back to the public and the company must be owned by at least 300 parties within two years of the offer. This rule is expected to increase market liquidity, provide greater opportunity for public investors to own shares of the public company after a takeover and prevent listed companies from going private. After a series of attacks, the 2011 updated version of Bapepam Regulation No. IX.H.1 stipulates the conditions under which Bapepam-LK can prolong the period for the mandatory sell-down of shares to relax the sell-down requirements. There have been discussions to amend this rule since 2014, but as of September 2015, no new rule had been approved.
There is also a rule on voluntary tender offers (VTOs), in which anyone can launch a public bid to purchase shares in, or even take over, a publicly listed company, as governed under Bapepam-LK Rule No. IX.F.1. All VTO-related rules aim to uphold the principle of fairness and accountability, especially within the context of protecting the rights of public shareholders. Within this framework, there are provisions concerning defences against hostile takeovers carried out by the board of directors (BoD) or the board of commissioners (BoC) of the target company, by virtue of a statement of encouragement or discouragement, or a public statement when there is evidence that the information contained in a VTO statement is incorrect or deceitful. However, in practice, there have been no instances of hostile takeovers in the Indonesian market.
Merger and consolidationA 1997 Bapepam rule is the prevailing rule on merger and consolidation of public companies; however, following enactment in 2007 of Law 40/2007 (the New Company Law), there have been several updates that apply to public companies or issuers. According to the New Company Law, merger means a legal action taken by one or more companies to merge with another existing company, causing the transfer of assets and liabilities of the merging companies by operation of law, to the surviving company and thereafter the legal entity status of the merging companies ceases by operation of law. Consolidation means a legal action taken by two or more companies to consolidate themselves by establishing a new company, which by operation of law obtains the assets and liabilities from the consolidating companies, and the legal entity status of the consolidating companies ceases by operation of law. This definition sets out a more advanced concept than that provided under the 1997 Bapepam rule.
In a privately held company, merger and consolidation starts with the drawing up of a merger or consolidation plan regarding all relevant entities, upon which the BoC and the GMS will give approval or disapproval. As for public companies or issuers,
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the requirements and procedures are generally the same as those for a privately held company. However, public disclosure and a fairness opinion are important to promote a level playing field.
Initial information regarding merger or consolidation must be submitted at the earliest stage, despite no clear definition as to the exact time when to do so. Presumably, this must be carried out before the merger or consolidation plan is drafted (the rule uses the term ‘feasibility study’, which is not recognised under the New Company Law). The rule states that the information is to be submitted to Bapepam-LK two days after its approval by the BoC. Upon the finalisation of the merger or consolidation plan, such information must also be disclosed again to OJK. A summary of the merger or consolidation plan must be announced to the public in two Indonesian newspapers, one of which must have national circulation. At this stage, the company is required to conduct a GMS to obtain approval, the invitation to which must also be made public. Finally, the Bapepam-LK rule also compels the companies to obtain an independent opinion, to maintain transaction fairness. Therefore, in summary, a merger or consolidation must be made public at several stages: upon the approval by the board of commissioners, after the merger or consolidation plan is complete and before the GMS. Each of the steps may affect the share price of the relevant companies.
Quasi-reorganisationPursuant to Bapepam-LK Rule IX.L.1, quasi-reorganisation is reorganisation without true reorganisation, or without true corporate restructuring, which is carried out by reassessing the assets and liabilities of the company based on their reasonable value and disposal loss balance. The company commencing quasi-reorganisation must disclose to Bapepam-LK when submitting the agenda for a GMS to approve such a transaction, and an information disclosure must also be published in a national newspaper.
Share buy-backShare buy-back (or repurchase) is governed under Bapepam-LK Rule No. XI.B.2, pursuant to which buy-back is defined as the reacquisition by a company of its own shares publicly traded in the market. Share buy-back is executed for the interest of the company and the shareholders. Shareholders who wish to receive payment for their shares may sell them back to the company. Shareholders who retain their shares might benefit from an increase in price due to the reduction in number of shares issued. The repurchased shares are kept inside the company as ‘treasury shares’ until they are reissued.
Under the New Company Law, companies may repurchase issued shares provided that the repurchase of shares does not cause the net assets of the company to become less than the subscribed capital plus the mandatory reserves set aside; and the total nominal value of all the shares repurchased by the company plus any pledge of shares or fiduciary security over shares held by the company itself or by some other company whose shares are directly or indirectly owned by the company does not exceed 10 per cent of the total amount of capital subscribed in the company, unless otherwise provided in the securities regulations. Any transaction that violates the principle would be considered null and void. Further, the company may retain the repurchased shares for no more than three years. Under general corporate law, the repurchase of shares may only be carried out with the approval of a GMS, unless provided otherwise in the securities regulations.
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In addition to a share buy-back initiated by the company, shareholders can also initiate the action. This happens in the event that a concerned shareholder requests that the company buy back its shares at a fair price because the shareholder does not approve a specific company plan (amendment of articles of association, or merger, consolidation, acquisition or spin-off). In the event that the shares requested to be bought exceed the limit on repurchase of shares by the company, the company must then endeavour to have the remaining shares bought by a third party.
In general, and pursuant to the buy-back rule, GMS approval is necessary for a buy-back. However, to diminish the effects of the financial crisis and to ease the issuer or public company’s conduct of the share buy-back, OJK issued OJK Circular Letter No. 22/SEOK.04/2015, which refers to Rule No. 2/POJK.04/2013 on Share Buy-Back Issued by the Issuer or Public Company in Significantly Flucuating Market Condition (OJK Rule 2/2013) as a supplement to the OJK Rule No. XI.B.3/2008 on Share Buy-Back of Issuer or Public Company in Potential Crisis of Market Condition. Pursuant to OJK Rule 2/2013, issuers or public companies may conduct share buy-backs without seeking approval from a GMS provided that it is limited to 20 per cent of the paid-up capital of the issuer or public company. Nonetheless, pursuant to OJK Rule No. XI.B.2/2010 on Share Buy-Back Issued by the Issuer or Public Company (which is still valid), a GMS approval is necessary for a share buy-back involving a maximum 10 per cent of the issued capital of the issuer of a public company.
A share buy-back can be carried out either in the market or OTC. In the latter case, there are rules regarding the price to ensure market integrity and prevent any insider dealing. A share buy-back can trigger a price change in the market from which some parties can extract rent. When a company buys back its own shares, it reduces the number of floating shares (publicly traded shares) held by the public. Therefore, if profits remain the same, the earnings per share increase. Therefore, share buy-back is relevant to the price formation of the company.
iii Developments affecting derivatives, securitisations and other structured products
Regulations concerning asset-based securities (ABS) have been enacted since 2003, yet to date there is little practice involving ABS within the Indonesian market. There are discussions to further utilise ABS as instruments to promote liquidity in the banking and capital market sector. In a standard ABS issuance, the original creditor, or the originator, will separate assets (securities or receivables) by virtue of a sale, or any other form of transfer, to a special purpose vehicle (SPV) that will hold the underlying asset and issue the ABS; this SPV is usually in the form of a trust. The SPV will have no other commercial activity, apart from managing the underlying assets and the ABS. As the Indonesian civil law-influenced system does not recognise the concept of trusts, Bapepam-LK provides a legal scheme by virtue of a collective investment contract (CIC). A CIC is entered into by and between the fund manager underwriting the ABS and the custodian bank holding the ABS. The CIC also binds the holders of ABS by virtue of accession. Similar to a trust scheme, the CIC can issue ABS, and it is also insolvency-proof.
ABS can be offered either to strategic investors or to the public by virtue of a public offering in the IDX. When offering an ABS instrument to the public, there are
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registration requirements with which the issuer needs to comply. The offering of ABS to strategic investors is subject to information disclosure requirements in accordance with the relevant disclosure rules. The first public offering of ABS, and which has been listed in the IDX, was carried out on 12 February 2009. Relevant regulations on ABS include:a Bapepam-LK Regulation No. V.G.5 on the Role of Fund Managers in Relation to
ABS;b Bapepam-LK Regulation No. VI.A.2 on the Role of Custodian Banks in Relation
to ABS;c Bapepam-LK Regulation No. IX.C.9 on Registration Statement in Relation to
Public Offering of ABS;d Bapepam-LK Regulation No. IX.C.10 on the Guidelines of Form and Substance
of Prospectus in Relation to Public Offering of ABS;e Bapepam-LK Regulation No. IX.K.1 on the Guidelines of CIC in Relation to
ABS;f Decree of the Director General of Tax No. Kep-147/PJ/2003 dated 13 May 2003 on
Income Tax for Revenue Earned or Acquired by CIC-ABS and its Investors; andg Central Bank (BI) Regulation No. 7/4/2005 on Prudent Principles in Asset
Securitisation for Commercial Banks.
Another form of structured product found in the Indonesian market is the real estate investment trust (REIT). As with ABS, REITs in Indonesia are structured to comply with the civil law-influenced system, which is incompatible with the concept of trusts. The CIC model (entered into by and between the fund manager and custodian bank, binding to REITs holders through accession) is, therefore, adapted and implemented. In December 2007, Bapepam-LK issued four regulations to promote the issuance of REITs in the IDX by virtue of the following:a Bapepam-LK Regulation No. IX.C.15 on the Registration Statement for Public
Offering of REITs in the form of CIC;b Bapepam-LK Regulation No. IX.C.16 on the Guidelines on the Form and
Substance of Prospectus for the Public Offering of REITs;c Bapepam-LK Regulation No. IX.M.1 on the Guidelines for Fund Manager and
Custodian Bank on REITs; andd Bapepam-LK Regulations on the Guidelines of CIC for REITs.
iv Role of the IDX
In addition to the formal regulator, the Indonesian securities legal system also recognises a system of self-regulatory organisations (SROs) to support compliance and enforce the rules. The IDX is an example of one of the SROs. Legally, the IDX is a limited liability company, operating privately as a stock exchange. However, the IDX has the power to regulate and enforce. By virtue of Rule 1-E concerning the Obligation of Information Submission, in the form of Decision of IDX BoD 306/BEJ/07-2004, the IDX exercises this authority with regard to information disclosure. To conduct orderly, proper and efficient stock trading and to enable the spread of information more widely at the IDX, the IDX may suspend the trade of a stock throughout the market or in a certain market, for a certain period. The suspension is not considered as a sanction against the listed
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company. The IDX will be entitled to demand a clarification, either in writing or through a hearing, from the listed company regarding the alleged IDX rule violation by the listed company. In the event that the clarification sought by the IDX cannot be published, is considered confidential or is not provided by the listed company, the company must submit information or a statement regarding its inability to fulfil the said inquiry and the reason.
The IDX can conduct research on information and documents submitted by the listed company and shall decide upon such matters, considering not only the formal aspects, but also the substance of the requirements. As an SRO, the IDX is more flexible and resourceful in assessing compliance with the rules at the substantive level, not just the formalities. Listed companies must submit to the IDX a periodic report, an incidental report and conduct a public exposé. The periodic reports and incidental reports must be submitted by the listed company to the IDX simultaneously with the submission of the said information to the public.
Most of the regulated disclosure requirements in the IDX rules refer to Bapepam-LK rules, both on the periodic and transactional disclosure requirements. Therefore, all mandatory disclosure, from financial statements to annual reports to corporate actions (takeover, tender offer, rights issue and so on) are also subject to the IDX rules. There is one additional requirement for public exposition that is specific to the IDX. According to IDX rules, any listed company must organise an annual public exposé at least once a year that can be conducted on the same day as the convening of the GMS. In addition to the annual public exposé, a listed company must also organise an incidental public exposé at the request of the IDX, if according to the IDX, the listed company is experiencing an event or incident or there is information that can influence the security’s value or investors’ decisions and the written explanation submitted by the listed company is deemed not to be sufficient.
v Other strategic considerations
The intersection between the securities law regime and other industry or sector-specific regimes has been a controversial topic in Indonesia. There have been many cases involving contradictions between the securities law obligations and other rules, including foreign direct investment (FDI) rules, the Negative Investment List (DNI), the coal mining public contract rule and the broadcasting rule.
The recent Investment Coordinating Board of the Republic of Indonesia (BKPM) Regulation No. 5 of 2013 as amended by BKPM Regulation No. 12 of 2013 on the Guidelines and Procedures for Licences and Non-Licences for Capital Investment (BKPM Regulation 5/2013) would have addressed the question of controlling shareholders in publicly listed companies. A listed company would have been categorised as a foreign investment company (PMA) if all or one of its controlling shareholders is a foreign individual, a foreign legal entity or a PMA company. In such an event, the listed company must apply for a PMA licence. The rule has ignited debate on whether a portfolio investment by virtue of an IDX transaction is also considered as FDI with the objective of effective control over such a listed company. The rule arguably challenges Article 4 of Presidential Regulation No. 36 of 2010 on the DNI (applicable at the time), which states that the DNI does not apply to ‘indirect or portfolio’ investments.
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III OUTLOOK AND CONCLUSIONS
In conclusion, the challenging financial downturn of 2015 has directly influenced the development of the Indonesian capital market. Nevertheless, the market has demonstrated stable and robust progress, with continuous improvements in the regulatory environment providing better rules for investors and issuers and the development of new financial products. After completing the basic institutional establishment, OJK has started to play a more active regulatory role in 2015. Meanwhile, the new leadership of the IDX covering the term 2015–2018 is also expected to give more energy and resources to strengthen the market into becoming more solid, expansive and robust. In the near future, market participants may expect significant regulatory changes on rules concerning corporate actions, including takeover, mandatory bids, rights issue and disclosure requirements.
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Chapter 13
IRELAND
Nollaig Murphy1
I INTRODUCTION
i Legal framework
In 2015, the EU capital markets seemed to finally move on as a marketplace from the post-Lehman international crisis. A settled albeit modest market for collateralised loan obligation (CLO) and residential mortgage-backed securities (RMBS) issuance was in evidence and steady issuance occurred. The highly cyclical volatility caused by regulatory uncertainty in previous years was less prevalent. While domestic corporate issuance of capital markets debt in Ireland has always been modest, significant volumes of structured finance debt were issued as part of CLOs, collateralised debt obligations (CDOs), RMBS, commercial mortgage-backed securities (CMBS) and repackaging transactions out of Ireland. This was significantly curtailed in 2011 and 2012, saw some return to activity (especially CLOs) in 2014, and has steadily increased over 2015 with CLO and repackaging volumes up on previous years. Indeed, public CLO issuance reached €9 billion by September 2015 with an estimated volume of around €15 billion for year-end 2014. Stability returned to markets in 2013 and volume overall increased in 2014 and 2015, and while the volume of transactions characterised by pre-2006 levels has yet to return, the capital markets continue to be accessed in other ways. Market participants have recently shown that they will continue to use Ireland as one of the preferred international financial locations – in 2015, as with 2014, Ireland remained the leading EU jurisdiction of issuance for public CLOs, with 75 per cent of deals issued out of Ireland.
1 Nollaig Murphy is a partner at Maples and Calder.
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Capital markets transactions lawIrish capital markets law is generally integrated into parallel systems of common law, equity and statute, without any specialised tribunals governing its administration or enforcement. The fundamental legal principles governing debt and contractual obligations created under bonds and securities are still rooted in the original provisions set out in the Bills of Exchange Act 1882 but have been overtaken and enhanced significantly by a plethora of domestic and EU-originated legislation.
Current regulatory and legal status
The principal regulator of capital markets in Ireland is the Central Bank of Ireland (the Central Bank).
The country’s only regulated stock exchange is the Irish Stock Exchange (ISE). The ISE has two markets on which debt can be admitted: the Main Market, which is regulated, and the Global Exchange Market (GEM), which is not. Both of these include general corporate debt and specialist securities including asset-backed securities, specialist bonds and warrants. The Main Market and GEM have each developed a large following in the international capital markets because of their quick turnaround times on ‘reads’ or reviews of draft listing documents and prospectuses, and on well-settled content requirements for relatively complex obligor structures. In 2012 and 2013, there was a significant increase in the number of general corporate debt issuers seeking a listing in Ireland and that trend has continued. Most notably, a number of medium term note (MTN) corporate programmes continue to migrate their listings to Ireland. Contingent convertible bonds by international bank issuers listing on the ISE was a notable recent trend. In addition, the GEM has seen a number of high-profile listings including the first Eurobonds issued by Microsoft. The boom in US-issued CLOs was reflected in 289 CLOs listing on the ISE in 2014. There was also a growing interest in Chinese companies issuing debt via financing subsidiaries and listing on the GEM.
The key legal, statutory and regulatory provisions relevant to debt securities include:a contract law;b statutory company law (including, in particular, the Irish Companies Acts 1963–
2012);c common law;d Directive 2003/71/EC, as amended by Directive 2010/73/EU (the Prospectus
Directive);e Commission Regulation (EC) No. 809/2004, as amended by Commission
Delegated Regulations (EU) 486/2012 and 862/2012 (the Prospectus Regulation);f Directive 2004/109/EC (the Transparency Directive);g Directive 2003/6/EC (the Market Abuse Directive); andh the Listing Rules and the Admission to Trading Rules of the Main Securities
Market (Listing Rules) or the Listing and Admission to Trading Rules, Global Exchange Market (GEM Rules), as applicable.
There are also statutory provisions and regulations applicable to particular classes or types of securities including in particular commercial paper, certificates of deposit, RMBS or CMBS, general securitisations and uncertificated securities. The Companies
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Acts regime also incorporated (in 2006) certain exempting provisions from the general formal requirements for Irish companies issuing debentures for particular restricted classes of debt securities, to facilitate the use of private companies for non-public bond transactions.
Privately placed, unlisted debt securities are not ordinarily subject to the rules of the Prospectus Directive, the Prospectus Regulation, the Transparency Directive or the Market Abuse Directive. The interplay of regulations within this regulatory environment is a complex area and invariably requires detailed specialist advice.
Companies Act 2014The Companies Act 2014 came into force on 1 June 2015 and replaces all existing Irish companies’ statutes in what is largely a consolidation, simplification and codification exercise. There are a number of provisions that will affect new Irish issuers of listed securities and require steps to be taken for existing Irish issuers of listed debt securities. The Companies Act 2014 creates a new type of private company limited by shares called a designated activity company (DAC) and changes the form of the existing private company limited by shares (LTD). The LTD is a more streamlined, simplified form of an existing private company limited by shares. The key difference between an LTD and a DAC is that an LTD shall neither apply to have securities (or interests in them) admitted to trading or to be listed on, nor have securities (or interests in them) admitted to trading or listed on any market, whether regulated or not, in Ireland or elsewhere.
A DAC, however, is not subject to such restrictions as regards the listing of its securities. Other than the ability to issue listed debt securities, there is little difference in the company law applicable to DACs and that currently applicable to existing private limited companies.
Conversion to a DACThere is an 18-month transition period (from June 2015) under the Companies Act 2014 to allow existing issuers of listed debt securities to convert to DACs. Liability may arise for the directors and the company if they fail to convert within the prescribed time frame.
Conversion occurs by a simple resolution of the board of directors. The conversion process requires a change in the issuer’s name (to include the ‘DAC’ abbreviation in place of ‘limited’) and includes the deemed amendment of the issuer’s constitutional documents to reflect this change.
Existing Irish capital markets issuers that are public limited companies will not be required to take any conversion steps under the Companies Act 2014 (although it may be prudent that they also amend their constitutional documents to update them for the purposes of the Companies Act 2014).
Public offersSection 68 (and Section 981, in relation to DACs) of the Companies Act 2014 states that an offer of debentures to the public by a private company will not be considered an offer to the public if:a the offer is addressed solely to qualified investors;b the offer is addressed to fewer than 150 persons other than qualified investors;
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c the terms of the offer provide that the minimum consideration payable by each investor is at least €100, 000;
d the terms of the offer provide that the denomination of units of the debentures being offered is at least €50,000 (increased to €100,000 by Section 68);
e the terms of the offer expressly limit the total consideration for the offer to less than €100,000; or
f the offer relates to classes of instruments usually dealt on money markets having a maturity date of less than 12 months.
Therefore in the case of a retail transaction an Irish issuer will be required to be incorporated as a public limited company, whereas in relation to a wholesale transaction it is possible to use an Irish private limited company as issuer. The above exemptions are analogous to the exemptions from the requirement to publish a prospectus contained in the Prospectus Directive.
While the regulatory structure outlined above provides the backdrop to much of the structuring and formal requirements of the legal documentation surrounding capital markets transactions in Ireland, most securities issued in Ireland tend to be listed for legal or tax reasons. Accordingly, the key focus on production of a prospectus (in the case of the Main Market) or listing particulars (in the case of GEM) for such securities is on the requirements of the Prospectus Directive/Prospectus Regulation and Listing Rules or the GEM Rules, as applicable, and the production of prospectus or listing particulars in a form acceptable to the Central Bank (in the case of the Main Market) or the ISE (in the case of the GEM). In addition, it is not unusual for Irish note transactions to be listed on other ‘recognised’ exchanges for tax purposes such as the Cayman Islands Stock Exchange.
Other regulatory frameworks – listed securitiesWhere an issuer lists its debt on the Main Market of the ISE, in addition to the obligation to publish a prospectus complying with the requirements of the Prospectus Directive, the issuer will also be regulated under the Market Abuse Directive and the Transparency Directive.
Obligations under the Market Abuse Directive include:a the prohibition of market abuse and market manipulation by the holders of inside
information;b an obligation to disclose price-sensitive non-public information to the market;c the preparation and maintenance by the issuer or any other person of lists of
holders of inside information; andd the obligation to make fair recommendations to investors.
The Market Abuse Directive is implemented into Irish Law by the Market Abuse (Directive 2003/6/EC) Regulations 2005 on 6 July 2005.
Obligations under the Transparency Directive include:a the publication of audited accounts within four months after each financial year
end and the preparation of half-yearly financial reports (where the minimum denomination of the securities is less than €100,000);
b the requirement to treat security holders equally; and
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c the requirement to maintain a flow of information to security holders on an ongoing basis.
The Transparency Directive is implemented into Irish law by the Transparency (Directive 2004/109/EC) Regulations 2007 on 13 June 2007.
The Market Abuse Directive and the Transparency Directive only apply to securities listed on a regulated market, unless those securities derive their value from another security or instrument traded on a regulated market. Thus, GEM-listed and unlisted securities will typically not be subject to the Market Abuse Directive or the Transparency Directive. However, it should be noted that a number of the GEM Rules mirror the requirements of the Transparency Directive (which forms the basis of the continuing obligation rules for the Main Market). In addition, the GEM Rules specifically require that GEM-listed issuers comply with the requirement to disclose inside information imposed by the Market Abuse Directive. In 2013 and 2014 the provisions of the Market Abuse Directive underwent close scrutiny in relation to numerous market buybacks to ensure compliance by international financial institutions in ‘vertical slicing’ transactions, as many of these bonds were listed in Ireland.
There are also short selling restrictions imposed on investors in relation to positions held in EU sovereign debt under Regulation (EU) No. 236/2012 from 1 November 2012.
ii Structure of the Irish courts
The Supreme Court, the Court of Criminal Appeal, the High Court, the Circuit Court and the District Court constitute the various courts in the Irish legal system. The Courts (Establishment and Constitution) Act 1961, together with the Courts (Supplemental Provisions) Act 1961, provided for the establishment of, and prescribed the jurisdiction of, the various courts.
The Court of Criminal Appeal, given its limited function as a court for the conduct of appeals against conviction or sentence from criminal trials, is irrelevant for present purposes. Likewise, the district and circuit courts do not play an appreciable role in dispute resolution in a commercial context because of their limited jurisdictions.
It follows that the High Court is invariably the court of first instance for significant commercial disputes. Within the High Court structure, there is a specialist list called the Commercial List (or the Commercial Court), which is a division of the High Court. There is currently a proposal to amend the Irish Constitution to enable the creation of a Court of Appeal for civil matters. This is required to address the current backlog of appeals before the Supreme Court.
iii The Commercial Court
The establishment of the Commercial Court in 2004 represented a radical departure in the manner in which commercial disputes were managed under the Irish legal system. Following similar reforms in England and Wales, the Commercial Court was established to reduce the often inordinate delay in the conduct of commercial proceedings in the ordinary High Court. In that regard, it was typical for a dispute in the ordinary High Court to take several years from commencement of proceedings to the handing down of the judgment. This can still apply for disputes not admitted to the Commercial List.
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The establishment of the Commercial Court has been a considerable success, largely because the rules established for the conduct of proceedings in the Commercial List provide a specific procedural framework designed to handle complex commercial disputes in an efficient, expeditious and cost-effective manner. This division of the High Court has also been proactive in promoting alternative dispute resolution (ADR), particularly mediation.
The Commercial Court rules (Order 63A of the Rules of the Superior Courts) detail a largely self-contained system for dealing with pretrial procedure, although it should be noted that the Commercial Court rules operate in tandem with the Rules of the Superior Courts; there are, however, some notable differences – chiefly the ability of the Commercial Court judge to take a proactive role in case management and conduct of the proceedings.
JurisdictionThe jurisdiction of the Commercial Court is invoked by one or other of the parties to proceedings making an application for entry to the Commercial List. The primary criterion for entry is that the case is a ‘commercial proceeding’. A number of categories of ‘commercial proceedings’ are defined in Order 63A. By far the most frequently invoked category of commercial proceeding is a claim arising from a business document, business contract or business dispute where the value of the claim or counterclaim is at least €1 million. In addition, the Commercial Court judge has a residual discretion to admit a claim that does not meet this threshold, having regard to the particular commercial or other aspects thereof.
Based on the fairly minimal threshold of €1 million and the relatively broad concept of what constitutes a ‘commercial’ dispute, together with the residual discretion of the Commercial Court judge, the Commercial Court has become the forum of choice for the resolution of the majority of banking disputes in Ireland. This has had a particularly beneficial effect on the conduct of such cases, and should generally have a positive effect on the conduct and undertaking of complex financial cases in the future, including financial cases, and including many of the likely complex capital markets transactions that may find their way into the courts.
Once admitted, Commercial Court proceedings are closely case managed to aggressive time frames. Typically, the time limit for each step in the proceedings is either two or three weeks. The ensuing requirement for parties to focus on the merits of their respective cases at an early stage in the proceedings often acts as a catalyst for settlement well in advance of the trial date. The Commercial Court’s case management has also led to the introduction of procedural steps that are not normally a feature of ordinary High Court cases, such as the exchange of witness statements and the ability to serve interrogatories without the leave of the court.
The Commercial Court has extensive powers to impose costs sanctions for delays and defaults in compliance with its directions, and may, in the case of more substantial default, order that the proceedings be removed from the Commercial List. This latter sanction creates a significant incentive for plaintiffs to ensure their case is dealt with expeditiously.
While the Commercial Court requires parties to expedite proceedings, it is also supportive of ADR. Specifically, the Commercial Court has jurisdiction to adjourn
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the proceedings to allow the parties to consider the use of mediation, conciliation or arbitration to resolve the dispute and in the event that the parties indicate agreement to proceed via ADR, the Commercial Court may extend the time for compliance by the parties with the timetable in place. It is worth noting that the Commercial Court has discretion to impose costs on a party that unreasonably refuses to engage in mediation.
Time framesWhile the majority of significant commercial disputes are heard before the Commercial Court, admission to the Commercial Court is at the discretion of the judge appointed to manage the Commercial Court. Where the value of the claim in question is less than €1 million, the likelihood is that the Commercial Court judge would exercise his or her discretion to refuse entry to the Commercial List – clearly this is unlikely to apply to most capital markets transactions. Furthermore, in practice the Commercial Court judge may refuse entry to the Commercial List in circumstances where the party seeking entry has failed to demonstrate sufficient urgency in issuing its claim and in making its application for entry, notwithstanding the party’s compliance with the express time limits in the rules. This might affect a number of capital markets transactions as, given their complexity, sometimes they are not litigated for some time after potential issues have arisen.
The rationale behind this is that the finite resources available to the Commercial Court should not be afforded to cases where there is a lack of real urgency. What constitutes delay will vary depending on the circumstances, and any prospective litigants should be warned that, as a rule of thumb, they must institute proceedings and proceed with their application with all due expedition. Any significant time-gaps must be explained on affidavit.
The alternative is for the proceedings to be dealt with in the overly congested ordinary High Court list, where the latitude afforded to a party inclined to delay the proceedings is much greater. The result is that one can expect proceedings may take some years, in contrast with the Commercial Court, where cases are quite often concluded within about six months, and in all but the most complex cases, within one year.
iv Appellate jurisdiction
The Supreme Court has appellate jurisdiction only, and is the only domestic court of appeal from a decision of the High Court (including the Commercial Court) in civil matters. An appeal from a decision of the High Court may be brought as a matter of right to the Supreme Court on a point of law, or on issues of liability or quantum. Generally, the Supreme Court will be slow to interfere with findings of fact by the High Court. Appeals to the Supreme Court can be characterised as uncommon as a proportion of High Court judgments, and the delay to hearing can be up to three years. A certificate of urgency may be obtained in certain circumstances, in which case the delay to hearing is still likely to be in the order of 12 months. As noted above, it is proposed to hold a referendum to amend the Constitution to provide for the establishment of a civil Court of Appeal.
The Court of Justice of the European Union (ECJ) has a limited supervisory jurisdiction from the High Court to hear and determine points of European Community
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law, typically by way of reference under Article 267 of the Treaty on the Functioning of the European Union.2
While ordinarily referrals to the Supreme Court or the ECJ would be rare, it is interesting to note that the nature of some of the legal arguments that have been made in Irish courts in contesting some of the emergency measures implemented legislatively in Ireland have involved constitutional and EU law arguments, suggesting increased recourse on such matters. Similarly, there have been arguments considered in the area of breach of human rights under the European Convention on Human Rights, which would require recourse to the European Court of Human Rights.
v Tax
Ireland’s Section 110 regime3 allows the taxable profits of qualifying Irish debt special purpose vehicles (SPVs) to be calculated on the same basis as a regular trading company. In addition, provided the Section 110 company is appropriately structured, a full deduction should be available for interest and profit-dependent payments payable by the company on its debt securities, allowing the company to operate on a tax-neutral basis.
To benefit from the Section 110 regime, a company must satisfy a number of conditions. It must be resident in Ireland for tax purposes and must acquire, hold or manage qualifying assets or have entered into certain arrangements, such as swaps or loans, that themselves constitute qualifying assets. Importantly, the market value of the qualifying assets must be €10 million or more on the initial date they are acquired, held or entered into.
Although initially targeted at securitisations, the flexible nature of the regime has led to its use in a range of international financial services transactions including repackagings, CDOs and investment platforms. Ireland’s Finance Act 2011 expanded the scope of the Section 110 regime to allow companies to hold tradeable commodities and plant and machinery in addition to financial assets, while also introducing focused restrictions on the Section 110 company’s ability to deduct profit interest accrued or paid in certain structures. These changes have for example assisted (where required) in establishing aircraft financing platforms with aircraft assets being held directly by Section 110 companies.
There should be no Irish withholding tax on payments of interest by a Section 110 company, provided the securities are listed on a recognised stock exchange (such as the ISE) and qualify as quoted Eurobonds. Other Irish withholding tax exemptions are available, such as where the investors are persons who are EU-resident or resident in a treaty partner of Ireland, or where wholesale debt is issued (or where a double tax treaty applies – see below in more detail). Transfers of securities issued by Section 110 companies will generally be exempt from Irish stamp duty.
Generally, no withholding tax should arise on bonds issued by any Irish issuer that similarly qualify as quoted Eurobonds or for payments to EU or treaty-resident companies. Ireland has an extensive double taxation treaty network that facilitates
2 Formerly Article 234 of the EC Treaty.3 Section 110 of the Irish Taxes Consolidation Act 1997.
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capital markets transactions. There are also some other non-treaty-related withholding tax exemptions available to certain capital markets transactions (e.g., short-term paper).
II THE YEAR IN REVIEW
i Developments affecting the capital markets
2015 has, similar to 2014, been less uncertain than 2012–2013 in the capital markets internationally, and no different in Ireland. Accordingly, there have been numerous noteworthy developments in the industry.
One of the most topical areas pre-2014 was the impact of Irish domestic woes on international capital markets investors. This was demonstrated by a number of notable Irish corporate restructurings that issued private placement notes (PPNs) into the markets, in particular the US institutional investor market. As the Irish economy has generally recovered over 2013–2014, and began to actively grow in 2014–2015, such large-scale restructurings have abated.
The interest shown by distressed specialist investors in Ireland in that period has been replaced by more mid-market yield investors acquiring loan portfolios and associated secured assets. They have done so using Section 110 companies and commonly financed these structures using capital markets technology.
As the Irish economic situation unfolded in 2011–2013, and credit default spreads on Irish sovereign risk widened, the Irish government stepped in to implement a number of measures to protect investors (private and corporate) from exposure to Irish banks. These measures were largely contained in a series of enhanced government guarantees in relation to Irish bank deposits and Irish bank-issued senior and subordinated debt (the eligible liabilities guarantee schemes in 2011).
The Irish government was eventually forced to intervene to implement emergency legislation discontinuing the effect of the recently introduced government guarantees on subordinated debt, and granting itself emergency powers to override contract law to impose burden-sharing on holders.
The Credit Institutions (Stabilisation) Act 2010 (CISA) was introduced by the Irish government in December 2010 as part of the ongoing efforts to stabilise and recapitalise the Irish banking system. CISA was designed as a temporary emergency bank stabilisation regime with a ‘sunset clause’ limiting the application of the legislation to the end of 2012. CISA and its associated powers only apply to credit institutions headquartered in Ireland, which have received financial assistance from the Irish government (which category currently includes AIB Bank, Bank of Ireland, EBS, Irish Nationwide Building Society, Irish Life & Permanent plc and the formerly named Anglo Irish Bank Corporation) (Relevant Institutions).
CISA provides the Minister for Finance, in consultation with the governor of the Irish Central Bank, with a series of special powers that are exercisable in a very wide set of circumstances and subject to considerable ministerial discretion – although they are only exercisable by court order. These powers include:a direction orders requiring Relevant Institutions to engage or to refrain from
engaging in certain actions, including, most notably, selling assets, issuing shares to the Irish government and delisting their shares from recognised stock exchanges;
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b transfer orders, compelling Relevant Institutions to dispose of certain assets or liabilities;
c special management orders, appointing special managers to manage Relevant Institutions; and
d most controversially, subordinated liabilities orders, which allow the Minister for Finance to alter the terms of subordinated debt issued by Relevant Institutions, including alterations to principal and interest payment rights and maturities and the power to convert subordinated debt into equity.
These powers are exercisable by court order, with strictly limited rights of appeal and judicial review. CISA is effectively anterior to all other rules of law in operation. Specifically, legal and contractual pre-emption rights and defaults under contracts can be disapplied by the Minister under his powers.
CISA has been used in a number of instances, including:a a direction order compelling AIB Bank to issue shares to the state and delist from
the main markets of the Irish and London stock exchanges;b an order transferring the deposits of Irish Nationwide Building Society and Anglo
Irish Bank to AIB Bank;c a subordinated liabilities order imposing a haircut on subordinated creditors of
AIB Bank;d an order transferring the assets of Irish Nationwide Building Society to Anglo
Irish Bank, thereby effectively merging the two institutions; ande a direction order to facilitate the recapitalisation of Irish Life & Permanent plc to
meet the Central Bank’s regulatory requirements.
The powers contained in CISA were designed to constitute reorganisation measures within the meaning of the Credit Institutions Winding-Up Directive (CIWUD). Even in 2014, Irish bank debt (e.g., NAMA subordinated notes) was being traded actively in the market. Powers under CISA were, however, not exercised in 2013, and CISA was amended by the Central Bank and Credit Institutions (Resolution) Act 2011, and extended beyond its ‘sunset’ date of end of 2012 to 31 December 2014 but then ceased on that date.
The Central Bank and Credit Institutions (Resolution) Act 2011 (the Resolution Act), enacted on 28 October 2011 is designed as a permanent bank resolution structure the implementation of which is required by the IMF, the EU and the ECB under the Irish government’s memorandum of understanding with the ‘troika’. There have not been any significant powers exercised under CISA by the Minister for Finance over the past 12 months over the course of 2012.
The Resolution Act is similar to CISA, insofar as it seeks to permanently codify transfer orders and special management orders; there are, however, a number of key differences between the Resolution Act and CISA:a the Resolution Act applies to all Irish licensed credit institutions, not only
designated institutions;b the Resolution Act does not allow the government to impose haircuts on
subordinated creditors;
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c the powers in the Resolution Act are exercised by the governor of the Central Bank and not the Minister and there are stringent intervention conditions that must be satisfied before the powers are exercised;
d the Resolution Act creates a new resolution fund to be funded by credit institutions to finance potential future bailouts;
e the Resolution Act allows for the establishment of bridge banks by the Central Bank to manage a resolution process; and
f the Central Bank is given an institutional role in a credit institution liquidation process, including a veto power over the appointment of a liquidator, the power to petition for the winding-up of an institution and the power to appoint a special liquidation committee to oversee the interests of depositors.
Like CISA, the Resolution Act is designed to be CIWUD-compliant and the main powers are exercisable by court order.
The Resolution Act was not intended to remain in force for very long (the relevant levy period stipulated under it only runs until 30 September 2014 unless amended), as the European Commission published on 6 June 2012 a legislative proposal for a Directive introducing a recovery and resolution framework for credit institutions and investment firms in June 2012, which is designed to institutionalise extraordinary powers on a cross-Community basis. As expected, the Resolutions Act was amended by the Central Bank (Supervision and Enforcement) Act 2013 and the European Union (Bank Recovery and Resolution) Regulations 2015 which transpose the Bank Recovery Resolution Directive 2014/59/EU, and so remains in force.
Amendments to the Prospectus Directive and Transparency Directive, incorporated into Irish law on 1 July 2012, increased the thresholds for the applicability of certain exemptions from the obligations imposed by these directives. The changes also affected the format of the prospectus required to be produced for particular structured products, in terms of summary requirements for prospectuses in relation to retail issuances and the contents of final terms used in respect of series issued under a programme. Market participants have indicated that the Central Bank has adopted a more balanced and commercial approach to the application of the new rules in contrast to other European competent authorities, including demonstrating a willingness to engage in a certain level of consultation with issuers on technical matters. The migration of a number of listings to the ISE in the past 24 months is being attributed to this facilitative approach having been adopted by the Central Bank.
In September 2012, IDSA, the Irish Debt Securities Association, was established with the stated objective of promoting the Irish debt securities industry internationally. All main market participants have signed up as members. IDSA has since engaged in many significant consultative processes with industry and regulators.
The Alternative Investment Fund Managers Directive (Directive 2011/61/EU) (AIFMD) was implemented into Irish law on 22 July 2013 by the European Union (Alternative Investment Fund Managers) Regulations 2013 (the AIFMD Regulations). While the AIFMD Regulations have done little to temper the impact of the AIFMD on structured finance vehicles, market participants obtained useful guidance from the Central Bank as to the approach it will adopt regarding the application of the AIFMD Regulations. Submissions had been made in 2013 to the Central Bank for it to adopt a
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similar position to that taken by the UK Financial Conduct Authority, which has stated that it would assume that a special purpose vehicle issuing debt securities will not be an ‘alternative investment fund’ if the arrangements meet the exclusion in Paragraph 5 of the Schedule to the Financial Services and Markets Act 2000 (Collective Investment Schemes Order 2001 (Debt Securities) (Paragraph 5). Paragraph 5 identifies a number of arrangements that are not to be considered collective investment schemes. These include ‘investments of the kind specified by article 77 of the Regulated Activities Order which are […] issued by a single body corporate other than an open-ended investment company […] and which are not convertible into or exchangeable for investments of any other description’. Article 77 of the Regulated Activities Order specifies debentures, debenture stock, loan stock, bonds, certificates of deposit and any other instrument creating or acknowledging indebtedness.
The Luxembourg CSSF also recently confirmed a similar position. Maples has been advocating the view that the intention of the AIFMD was not to regulate structured finance vehicles and, together with other members of the IDSA, has been engaged in discussions with the Central Bank requesting it to clarify its position as regards the application of the AIFMD to structured finance vehicles. As a result of these discussions an additional Q&A was included in the fifth edition of the AIFMD Q&A published by the CBI on 8 November 2013 (the text of this additional Q&A is set out in full below).
Accordingly, the current position of the Central Bank is that FVCs registered under the FVC Regulation and other debt issuing special purpose vehicles will not be considered to be within the scope of the AIFMD.
Special Purpose Vehicles ID 1065Q. I operate an SPV. As ESMA has not yet issued guidance on how the Article 2(3)(g) exemption applies, what should I do to ensure that I am in compliance with the AIFMD?As a transitional arrangement, entities which are either:a) Registered Financial Vehicle Corporations within the meaning of Article 1(2) of the FVC
Regulation (Regulation (EC) No. 24/2009 of the European Central Bank), orb) Financial vehicles engaged solely in activities where economic participation is by way of debt
or other corresponding instruments which do not provide ownership rights in the financial vehicle as are provided by the sale of units or shares are advised that they do not need to seek authorisation as, or appoint, an AIFM, unless the Central Bank of Ireland issues a Q&A replacing this one advising them to do so. The Central Bank of Ireland does not intend to do that at least for so long as ESMA continues its current work on this matter.
One further potential impact of AIFMD on structured finance vehicles is the imposition of risk retention requirements (AIFMD Retention Requirements) separate and distinct from those imposed on credit institutions and investment firms under Articles 404–410 of CRR (CRR Retention Requirements). Those are both dealt with in more detail below.
Regulation (EU) No. 648/2012 is the EU Regulation on OTC derivatives, central counterparties and trade repositories (EMIR). It establishes new rules for mandatory central counterparty clearing in respect of certain standardised OTC derivative contracts, risk mitigation techniques in relation to transactions that are not centrally cleared, and general reporting obligations for counterparties. It entered into force on 16 August 2012.
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EMIR distinguishes its application between financial and non-financial counterparties. Irish securitisation or debt issuance entities generally fall within the designation ‘NFC-’ under EMIR in the Irish law context (i.e., an NFC that does not exceed certain clearing thresholds imposed by EMIR).
As NFC-s, Irish issuers have particular obligations under EMIR including in particular valuation and portfolio reconciliation requirements (albeit in certain circumstances on a delegated basis). However, they are generally not required to satisfy mandatory clearing obligations. Changes are expected during 2015 to the EMIR regime which may disapply it from some structured finance transactions that are considered simple, transparent and standardised securitisations (STS) for the purposes of the proposed ‘Securitisation Directive’. However, other clearing requirements may apply to transactions that were formerly exempted from clearing limits as mere hedging transactions, so there is some uncertainty around this issue.
CRA IIIRegulation (EC) No. 1060/2009 (as amended by Regulation (EU) No. 462/2013 (CRA III)) will impact Irish SPVs if they issue structured finance instruments (SFIs). SFIs are financial instruments or other assets relating to a securitisation transaction that are issued in tranches, the subordination of which determines the distribution of losses, and where the return on the SFIs is dependent upon the performance of the underlying pool.
Where credit ratings are sought for SFIs issued by an Irish SPV, the ratings must now be obtained from at least two independent rating agencies regulated by CRA III. In selecting the rating agencies to be appointed, the SPV (or a related third party – e.g., the arranger of the transaction) must consider engaging at least one rating agency with a less than 10 per cent market share (as determined and published by ESMA annually). There is no obligation to appoint such a rating agency, only to consider the appointment. Where neither of the rating agencies appointed have a market share of less than 10 per cent, this fact must be documented (e.g., in the SPV board minutes, or the listing document relating to the SFIs).
Separately, CRA III creates various public reporting requirements which will apply for specified types of SFIs from 1 January 2017. Under current regulatory technical standards in force, only SFIs backed by specified underlying assets classes (e.g., CMBS, RMBS, SME loans) will be subject to reporting requirements.
This obligation applies regardless of whether the SFIs are rated or listed, and applies jointly to the SPV and each of the originator and original lender (where such parties are established in the EU, by reference to the location of their respective statutory seats).
It remains unclear how the application of the concept of STS under the proposed Securitisation Directive will impact the application of CRA III to transactions.
CRREU risk retention and due diligence requirements currently are expected to apply to various types of EU regulated investors. These are highly relevant to Irish issuers as they will need to work with arrangers, originators, sponsors and investors to ensure capital markets transaction are risk retention compliant. The regime directly applicable with certainty to capital markets transactions is that enshrined in the CRR. There has been
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some market commentary as to whether the similar regime applicable under AIFMD to authorised alternative investment fund managers might apply to capital markets deals in the absence of complete clarity on interpretation in the form of technical standards. Both regimes will be replaced by a single regime under the proposed Securitisation Directive, but this remains in draft form as at late 2015.
The high-yield market has not yet had a significant impact in Ireland. Traditionally, Irish corporates accessed bank finance. Significant change occurred with increased access to the PPN market (in the US in particular) for some of the larger Irish corporates in the late 1990s and later; however, confidence waned in Irish corporate credit risk following some high-profile PPN restructurings. European high-yield debt is still in its infancy as an issuing option for Irish corporates; however, if it continues to be touted as a solution to the European leveraged loan bubble, then Irish corporates which are in Loan Market Association-leveraged loans may also look to access that option. As noted below, multiple loan transfers are being effected under Irish borrower portfolio sale transactions which will seek to access the capital markets to finance such deals.
In the area of asset-backed security, debt issuance volume had significantly reduced in recent years, up to and including 2012 with an increase in volume since then, especially in 2014–2015; however, one area that has bucked this trend is that of commodities-linked and direct commodities-secured bonds. High-profile issuers such as Source have successfully issued significant volumes of this product into the European market. This was enhanced by the widening in 2011 of the Section 110 regime to provide for the direct holding of tradeable commodities as ‘qualifying assets’ under that regime. This has clarified the position to facilitate in particular the issuance of precious metal secured bonds, and the development of many shariah-compliant structures, which commonly are secured on bullion (see subsection ii, infra).
In addition, the Section 110 regime was widened in 2011 to permit the holding of plant and machinery directly by Section 110 issuers. Again, this was a significant enhancement of the regime and facilitates, in particular, the simplification of aircraft securitisation structures – a natural fit with Ireland’s status as an aviation finance hub within Europe – along with other asset classes such as automobile leasing and rentals. There is significant industry and legislative support for the potential to finance the aviation industry through EETC-type instruments issued out of Ireland and the establishment of a primary and secondary market in Europe. This is perceived as a natural progression complementary to the traditional bank and ECA financing sources in the international aviation industry, especially given regulatory capital and balance sheet issues. During 2013 two EETCs opted to list on the ISE: DNA Alpha Limited, a Guernsey Issuer, listed on the Main Market and British Airways on the GEM. Avolon, a leading international aircraft leasing group based in Ireland, also issued and listed the first rated public securitisation of aircraft for six years through an Irish 110 issuer, Emerald Aviation Finance Limited, and listed the transaction on the GEM. In 2014, many significant aviation transactions were completed using Irish AOEs to hold multiple aircraft portfolios. These Irish structures facilitate the efficient financing and leasing of such aircraft through capital markets technology. A number of ABS transactions also completed over 2014–2015 which were solely collateralised on aircraft assets.
In the equity-linked space, there has been significant development over recent years in the capital markets in Ireland. While more traditional commoditised structured
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debt products have declined significantly, the area of hybrid equity products has opened up, in both bespoke (i.e., non-high volume, commoditised) and commoditised platform products. Bespoke products have included some capital products and equity-linked products being accessed by institutions as positive approaches to debt restructuring with clients – seeking debt or equity swap solutions to restructurings rather than default, in an effort to adopt London Approach principles of forbearance, has brought capital markets technology to bear on banking workout solutions. More commoditised and higher-volume product areas have included products to some extent mimicking equity or fund structures. In this regard, the popularity of fund managed account platforms in the investment community has generated product in the debt world. This has presented new challenges to capital markets lawyers and technologies in that such fund products are usually characterised by high-volume trading and are priced and redeemed on a regular basis. Commoditised structured finance products traditionally are illiquid and are not exchange traded. In response to this, Irish capital markets products in this area have accessed the relatively newly established exchange traded platforms for debt on the London Stock Exchange (SETS), the Deutsche Börse (Xetra) and other EU-regulated exchanges. In addition, innovative certificated note structures have been developed to facilitate daily issuance and redemption of Euroclearable notes – not usual for these types of debt products. These product offerings have also presented challenges in the context of the Prospectus Directive requirements, and maintaining Prospectus Directive compliance has presented interesting documentary requirements and listing needs, on a pan-European basis.
Irish SPVs continue to increase in popularity as structured solutions to the thriving funds industry in Ireland and the Cayman Islands. Irish SPVs complement Irish and Cayman funds by offering flexibility as finance vehicles where funds are acquiring particular types of financial assets, contracting with prime brokers and investment managers, and providing leverage. Irish qualifying investor alternative investment funds combined with Irish SPVs or holding companies also offer significant facilitation to purchasers and managers acquiring Irish and international loan and property portfolios. Irish SPVs are also being used to aggregate and manage restructuring solutions by financial institutions with attendant instruments being issued by the SPVs.
A huge increase in distressed asset, loan and property acquisitions in Ireland has occurred over recent years and remains ongoing in 2015. Many of these purchases have employed SPV technology to acquire and hold such assets, together with notes to finance the purchase and structure profits and gains cash flows to and from relevant counterparties.
In addition, CLO capital markets technology has been used in Irish structures creating credit funds to numerous sectors of Irish and pan-European borrowers including Irish government-backed initiatives in the SME sector. This form of funding was historically perceived by some industry sectors as ‘disintermediation’ of the banking industry, but there is clear evidence of increased cooperation between traditional lenders and credit fund lenders. The complementary nature of the services and funding each offers the market has created effective synergies, which has led to its growth as a lending sector in Ireland as in the rest of the EU.
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ii Relevant tax and insolvency law
Insolvency lawThere have been significant general developments in Irish insolvency law over recent years. These have been predominantly in the area of pure bank lending to domestic borrowers rather than with the international capital markets; however, inevitably capital markets participants have seen such developments affect the nature of their Irish insolvency advice. The Personal Insolvency Act 2013 was passed and makes a number of fundamental reforms to Irish bankruptcy law; it provides a legislative mechanism for three non-judicial debt settlement procedures for individual debtors and shortens the bankruptcy period from the current 12 years to three years subject to certain conditions. One procedure, the personal insolvency arrangement, is available in respect of secured debt of up to €3 million (although all of the secured creditors can agree to waive this limit) and all unsecured debt.
Also, there have been a number of progressive and highly interesting examinership rulings (Ireland’s Chapter 11-style regime), which have already had an impact on the nature and tenor of advice to capital markets clients. Bondholders on large financed transactions will inevitably be involved in any insolvency analysis with bank debt, and these recent changes have affected their general advisory requirements, including in particular the formulation of their defensive strategies as creditor groups. In broad terms an increase in the sheer volume of insolvency activity in the Irish courts has added clarification to particular areas of the law while also facilitating some judicial activism in certain areas. Some Irish corporate groups have achieved prepack-style examinership in substance if not in pure legal form.
Tax law and regulationIreland amended its tax code specifically to facilitate the variety of traditional Islamic finance structures, setting out particular classes of transaction that would be broadly tax-neutral and compliant for Irish purposes. The Irish government has also publicly committed to further increasing the attractiveness of the jurisdiction to this sector over the coming years. Ireland continues to complete tax agreements with other countries, increasing transparency and promoting its facilitation as an international capital markets hub. As of September 2015, Ireland has completed agreements with over 70 countries.
Ireland was also an early signatory to a double tax agreement with the US in relation to FATCA. The overall effects of FATCA and Volcker and how to deal with them in capital markets documentation generally are, however, still being assessed. International commentary highlights the need for a coordinated mutual recognition of both regimes, which does not currently exist.
iii Other strategic considerations
The Irish government has implemented a number of measures to deal with perceived and real issues within the regulation of financial institutions in Ireland. In particular, it implemented the Central Bank Reform Act 2010 to create a single organisation – the Central Bank Commission – replacing the boards of the Central Bank and the Irish Financial Services Regulatory Authority. The Act underpins the implementation of a new financial regulatory model, which intends to create a proactive risk-based model of supervision supported by a credible enforcement threat. In this regard, Part 3 of
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that Act introduced a new fitness and probity regime that sets new standards across the financial services industry and enhanced powers to approve, veto and investigate and, where appropriate, remove or prohibit position holders from 1 December 2011 (and fully effective from 1 December 2012).
In addition, the Central Bank and Credit Institutions (Supervision and Enforcement) Act 2013 has significantly enhanced the supervisory and enforcement powers of the regulatory authorities in Ireland. In particular, it provides for a significant increase in the financial penalties levied on regulated entities, including turnover-based penalties for corporations. For example, it doubles the current administrative sanctions penalties taking the maximum fine for individuals and bodies corporate to €1 million and €10 million (or 10 per cent of annual turnover) respectively. It will also include powers to restrict an entity’s activity and to suspend and revoke the authorisation of credit institutions, and will provide protection for whistle-blowers. It also provides significant new rule-making powers for the Central Bank, and for a civil-law damages remedy for aggrieved customers who suffer loss as a result of a breach of the rules by a regulated entity.
During the financial crisis, the capitalisation of Irish banks relative to the size and stability of their loan books has fallen under the spotlight. In 2010 the Central Bank set new and more stringent capital requirements for Ireland’s domestically owned banks through a process known as the prudential capital assessment review (PCAR), which raised the core Tier 1 capital ratios for those institutions first to 8 per cent and subsequently to 12 per cent. Subsequently, the PCAR process resulted in further stress tests imposing institution-specific requirements based upon the individual circumstances of each institution (the prudential liquidity assessment review, or PLAR) for any banks participating in PCAR.
In addition to the existing burden of PCAR and PLAR, the new Basel III requirements were scheduled to be introduced at the beginning of 2013 for Irish credit institutions, implementing new permanent standards of bank capitalisation (although at the time of writing there are still debates as to what timelines are feasible). Basel III will be implemented on a phased basis, as follows:
Capital type 2013 2015 2018
Equity 3.5% 4.5% 7%
Other Tier 1 1% 1.5% 1.5%
Tier 2 3.5% 2% 2%
Total requirement 8% 8% 10.5%
One of the key expected effects of Basel III is that it will force Irish banks to be much less reliant on Tier 2 capital and non-equity capital. In addition, from 2018 onwards all capital deductions (e.g., goodwill) will have to be made against Tier 1 (whereas there is currently a system of split deduction whereby half of the deductions are made from Tier 1 and the other half from Tier 2). This is why some commentators have speculated that core capital will have to rise between sevenfold and tenfold to meet the new Basel III requirements.
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These changes are certain to have a profound (albeit phased) impact on bank financing and the relationship between banks and the international capital markets – most notably, increased own funds requirements will significantly affect the ability of banks to use the capital markets as a leverage tool (although it will equally affect lending transactions).
More recently, the Central Bank has introduced in the second half of 2015 a reporting regime for Section 110 companies which are not registered as FVCs. This statistical reporting is in line with similar requirements in Luxembourg and the Netherlands for SPVs and is analogous broadly to current Irish reporting requirement for registered FVCs. Its purpose is to increase transparency for the Central Bank at a statistical level on the activities of Section 110 companies.
III OUTLOOK AND CONCLUSIONS
In the international capital markets issuance arena, 2015 activity has continued to increase in both the bespoke and commoditised spaces. Fundamentally, Ireland has retained its attraction as a structured finance location for international transactions. 60–70 per cent of all public EU CLOs in 2014–2015 were issued out of Ireland. Structures that were historically established in the jurisdiction (in particular limited recourse structures) have, notwithstanding credit events and defaults generally, worked as originally intended, and security and bankruptcy structuring has been robust. Our experience locally is that the locating of structured finance transactions in Ireland, in comparison with other jurisdictions of choice in Europe, has not been seriously damaged by Irish domestic economic issues. The reduced volume of these transactions has been driven largely by international economic factors. While, of course, generic concerns can be raised around Irish creditworthiness, even in the context of pure SPV transactions, this is constantly being counteracted by the response of the Irish legislature to the troika requirements, which have been followed faithfully, and which the troika (in July 2012) acknowledged were being satisfied fully. Indeed, Ireland has recovered domestically to one of the fastest-growing economies in the EU in 2014–2015. Its international sovereign credit rating through its bond pricing has similarly made a significant recovery. Specific key areas of activity are rising, and there are significant volumes in certain specialised areas as Ireland re-establishes itself as a centre of choice for particular products. This has been reflected by a significant increase in the use of Irish SPVs over the course of 2015 for public and private CLOs and repackaging transactions.
The broader public CLO market is, in using Ireland, unaffected by these credit issues and the resolution of regulatory issues on CRR, AIFMD and EMIR (as noted above) has assisted buoyancy in the market. In a recent 2014 international CLO conference, it was estimated that issuance volumes in 2015 should rise from 2014 volumes of €15 billion to €20–25 billion in 2015.
Although domestic corporate bond issuance is likely to continue to be damaged in the short term by general credit anathema to Ireland internationally, the credit quality of specific Irish corporate issuers is beginning to be re-acknowledged as the determining factor.
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The uncertainty that was introduced to the capital markets from an Irish perspective through the emergency measures and burden-sharing provisions imposed by the Irish legislature has also been significantly counteracted by the introduction into law of a special resolution regime. While affording swingeing powers to Irish government officials and regulatory authorities, the nature of that regime shifted focus from third-party investors towards the internal regulation and penalising of the credit institutions and officials, along with rescue and takeover provisions regarding the institutions. In practice, there were few governmental actions taken, and none have been taken in the recent past, nor as noted above are any significant actions expected again post-2014.
Overall, the outlook for capital markets activity in or through Ireland is optimistic, and positive and increased activity is apparent and likely to continue.
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Chapter 14
ITALY
Marcello Gioscia and Gianluigi Pugliese1
I INTRODUCTION
i Structure of the law
The Italian capital market law is a ‘multi-level’ structure in which the primary level of regulation is constituted by (1) Legislative Decree No. 58 of 24 February 1998 (known as the Consolidated Financial Law, but generally referred to as TUF2); and (2) Legislative Decree No. 385 of 1 September 1993 (known as the Consolidated Banking Law and generally referred to as TUB3), both amended several times since their original issue.
On a second level, there are the implementing regulations issued by Consob4 (i.e., the public authority responsible for regulating and supervising the Italian securities market) and the Bank of Italy.
The three most relevant second-level regulations issued by Consob are:a Resolution No. 11971 of 14 May 1999 concerning issuers of securities;b Resolution No. 16190 of 29 October 2007 concerning the activities, authorisations
and requirements of the investment firms; andc Resolution No. 16191 of 29 October 2007 concerning the organisation and
functioning of the securities exchanges and markets.
Resolution No. 11971 contains the implementing rules aimed at regulating, inter alia, the public offerings for the subscription and sale of financial products, the open-end collective investment undertakings (UCITS) as well as the alternative investment fund
1 Marcello Gioscia and Gianluigi Pugliese are partners at Ughi e Nunziante Studio Legale. The authors express their gratitude to Benedetto Colosimo for his valuable assistance.
2 Testo Unico Finanziario.3 Testo Unico Bancario.4 Commissione Nazionale per le Società e la Borsa.
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(AIF), the rules on the issue of financial products by insurance companies, the rules for the takeover bids or exchange tender offers and the rules for the listing of EU financial instruments and shares or units in collective investment undertakings on organised markets.
Resolution No. 16190 contains, inter alia, the implementing rules on intermediaries’ activities such as those regulating the authorisation for investment firms that intend to operate in Italy (both EU and non-EU firms), the rules regulating the modalities for the carrying out of investment services, activities and accessory services5 as well as door-to-door selling, distance marketing and the placement of securities. Furthermore, this Resolution contains provisions on the placement of financial products issued by banks and insurance companies.
Resolution No. 16191 contains provisions on the organisational requirements and the reporting obligations of companies managing regulated markets or other trading venues such as multilateral trading facilities (MTFs or trading systematic internalisers). Moreover, Resolution No. 16191 governs other important aspects in the field of the capital markets law, such as the rules for the admission, suspension or exclusion from trading of financial instruments and the access of the operators to the markets.
On a further and lower level of regulation, there are also the regulations approved by the companies managing authorised markets in Italy. Currently, in Italy, there are several authorised markets managed by two companies: Borsa Italiana S.p.a. and MTS S.p.a., both part of the London Stock Exchange Group.
While the markets managed by MTS S.p.a. are mainly focused on bonds, markets managed by Borsa Italiana S.p.a. trade shares, units in open-end collective investment undertakings, bonds derivatives, etc.
From a regulatory viewpoint, Borsa Italiana is competent for the approval and the updates of the ‘Rules of the Markets as well as the ‘Instructions accompanying the Rules of the Markets’. In addition, Borsa Italiana also released the Corporate Governance Code. Such Corporate Governance Code is not binding for listed companies, but the latter are usually in compliance with it and with the best practices set out therein.
ii Structure of the courts
The Italian ordinary judiciary system is structured, in general terms, in three levels: tribunals, courts of appeal and the Supreme Court of Cassation.
Proceedings regarding disputes in the field of capital markets are generally treated the same as any other kind of civil dispute.
However, pursuant to Law No. 27 of 24 March 2012, introduced into the Italian system are new specialised divisions of courts that are competent for disputes involving business and corporate cases. These specialised divisions have been established for the first two instances (tribunals and courts of appeal) and are internal divisions of the existing courts rather than ‘special courts’.6 As a matter of fact, the scope of specialised divisions
5 Pre-contractual information, transparency, avoidance of conflict of interest, etc.6 Since special courts would have been also incompatible with the Italian constitutional
principles prohibiting the establishment of ‘special courts’ outside the ordinary judiciary system.
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is to appoint, in each court, a team of specially skilled judges who can continuously focus their practice on matters regarding private business, corporate matters as well as shares and securities. In particular, it is worth noting that, pursuant to a recent law (Law No. 9 of 21 February 2014), disputes regarding foreign companies (also if such company has a secondary seat in Italy) which entail commercial relations in Italy – and therefore also capital market transactions, such as equity or debt investments – shall be mandatorily decided by a special division of the courts of Rome, Milan and Naples.
A recent Parliament bill (Law No. 98 of 9 August 2013) reintroduced in Italy an alternative dispute resolution (ADR) procedure consisting in the mandatory attempt to reach an amicable settlement between the parties. This attempt at amicable settlement, which is activated upon the claimant’s initiative, is a prerequisite for the valid commencement of the legal action before the courts. This procedure of pretrial ADR was established for the first time in 2010, but a subsequent judgment of the Constitutional Court declared the illegitimacy of such mandatory ADR attempt. Recently, by means of the law approved in 2013, the pretrial ADR attempt has been reintroduced with different principles (and it is foreseeable that the constitutional issues that caused the illegitimacy of this ADR procedure are now definitively solved).
Few matters are excluded from the field of application of this ADR procedure; therefore, the disputes involving financial and banking contracts can now be filed before an Italian court only after the fulfilment of this amicable settlement attempt.
Furthermore, disputes between investors and intermediaries can also be attributed to the jurisdiction of the Chamber of Arbitration and Conciliation of the Consob, established in 2007, and regulated by a specific Consob Resolution (recently updated on 19 July 2012). According to such arbitration proceedings, contracts between investors and intermediaries may contain arbitration clauses giving jurisdiction to the Consob Chamber of Arbitration and Conciliation.7 Such arbitral procedure has objective limitations, given that: (1) the arbitration can involve only alleged breaches of the intermediaries in respect of their pre-contractual duties on information, transparency and fairness; (2) the arbitral clause cannot be enforced towards the investor in case of lack of evidence of a specific acceptance (or at least a negotiation); and (3) in any case, the award rendered by the arbitrators shall be exclusively limited to the liquidation of a compensation to indemnify the investors.
In addition, consumer associations of investors are entitled to propose class actions to protect their collective interests in relation to the activities of investment services or collective portfolio management.
iii Local agencies and the central bank and their respective roles
In Italy, public intervention in the field of capital market activities is mainly based on the coordinated actions of several public agencies or entities mutually involved – within their respective areas of competence – in the supervision and control over the securities market.
7 Camera di Conciliazione e Arbitrato.
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The main authorities entrusted with functions and powers relating the capital markets are: (1) the Ministry of Economy and Finance (MEF); (2) Consob; and (3) the Bank of Italy.
The Ministry of Economy and FinanceThe TUF widened the competence of the Ministry of Economy and Finance. In particular, the Ministry is competent to establish, by a regulation adopted after consulting the Bank of Italy and Consob, the general criteria that investment funds must observe as regards, inter alia, the object of the investment, the categories of investors, the procedure to participate in open-end and closed-end funds, the principles relating to minimum or maximum duration of the funds.
With respect to the discipline of the issuers, the MEF is also competent to adopt a regulation (after consulting the Bank of Italy and Consob) that: (1) defines the experience, integrity and independence requirements for persons in charge of administrative, management and audit functions in Italian investment companies, asset management companies or SICAVs;8 and (2) sets integrity requirements for the shareholders in companies whose participation exceeds certain thresholds.
ConsobConsob is a committee (now composed of the chairman and two members appointed every seven years by means of a Decree of the President of the Republic upon proposal of the President of the Council of Ministers).
Consob is the main authority competent for the adoption of the secondary level regulation as well as for the ongoing supervision of the Italian securities markets as a financial supervisory authority.
In the carrying out of its functions, Consob is entrusted with several competences and powers aimed at ensuring both market stability and the issuers’ conducts and fairness in view of the protection of the investors.
Consob’s areas of competence encompass, inter alia: (1) supervising the correct and transparent conduct of the participants to the capital market; and (2) monitoring the fulfilment of disclosure duties burdening the issuers in case of issue of securities or, in general, in case of equity and debt placements.
Further important activities of Consob also regard its supervisory powers over transactions involving the ‘solicitation of public savings’, both in respect of the public offerings of securities and in respect of the public offerings aimed at buying or exchanging financial instruments.
Those who intend to make a public offering of EU financial instruments and financial products (other than units or shares of open-ended UCITS) shall give advance notice thereof to Consob, attaching the prospectus to be published. Consob shall approve the prospectus in compliance with EU regulations.
In respect of the public offers of units or shares of non-EU and EU or Italian harmonised open-ended UCITS as well as for AIFs, the offer shall be preceded by a communication by the issuer to Consob.
8 Investment companies with variable stock capital.
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Consob’s powers after the filing of the prospectus are incisive, in particular with respect to the prospectus regarding the UCITS. Indeed, Consob is entitled, inter alia, to:a order the suspension of the public offering as a precautionary measure for a
maximum of 90 days in the event of a well-founded suspicion of violation of law;b prohibit the public offering in the event of an ascertained violation of law;c disclose to the public the circumstance for which the public offering or the issuer
is not compliant with the legal requisite; andd adopt, as a preventive measure and for a period not exceeding 10 consecutive
business days, a resolution to request that the stock exchange company suspend trading on the regulated market in case of grounds for suspected violation of law.
In addition, should Consob discover irregularities committed by the issuer or authorised persons appointed to implement the public offering of EU financial instruments, it shall inform the competent authority of the home Member State of the issuer.
Bank of ItalyThe Bank of Italy is the national central bank and the public authority entrusted with the supervision of the Italian banking system (although its powers are exercised according to the limits of supervision of the national central banks due to Italy’s participation in the euro currency and European banking supervision).
The Bank of Italy also carries out also important tasks in the capital markets field.Most of the resolutions and the implementing second-level regulations to be
adopted by Consob are preceded by a consultation procedure with the Bank of Italy.In general, the sharing of the supervisory powers between Consob and the Bank
of Italy is based on ‘functional’ criteria and not on the supervised entities.While Consob is the authority mainly competent for the supervision of
transparency and correctness of conduct of the operators, the Bank of Italy is instead responsible for the supervision of risks, asset stability and the sound and prudent management of intermediaries.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
Development regarding the introduction of the ‘mini-bonds’ in ItalyLaw No. 134 of 7 August 2012 introduced important changes in the legal framework regarding the offer of bonds by private companies.
This set of new provisions is aimed at representing an answer to the contraction of banks’ lending activities in favour of small and medium-sized enterprises.
Law No. 134/2012 has been approved, upon proposal of the Italian government, as part of a wider set of interventions to boost the Italian economy. In particular, Law No. 134/2012 tries to facilitate the non-listed small and medium-sized companies to directly access the debt capital market.
By means of Law No. 134, the issue of listed bonds (as well as convertible bonds) is not subject to the previous general limitation prescribed by the Italian Civil Code based on quantitative thresholds. Indeed, according to the general rules set forth in the
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Italian Civil Code, a company cannot issue bonds for an amount exceeding twice the aggregate sum of the company’s capital stock, the mandatory reserves and the available reserves (if any) resulting from the last approved financial statements.
Such limitation is no longer applicable to the companies that issue bonds to be listed on a regulated market or on an MTF.
Such bonds, better known in Italy as ‘mini-bonds’:a can be issued by any kind of joint-stock company or limited liability company
and they are precluded only to banks and ‘microenterprises’ (i.e., companies with less than 10 employees and a turnover not exceeding €2 million);
b may be issued with a subordination clause aimed at establishing a priority of claims in the creditors’ ranking; and
c provided that they have a maturity of at least 36 months, they can be issued also with a profit sharing clause that is a mechanism of determination of the interest due partially based on a fixed or floating rate, and partially on a variable item linked to the profitability of the issuer.
It seems that mini-bonds have been received favourably by the issuers; in fact, after only two years from the introduction of such debt instruments, the overall amount of issues of listed mini-bonds was about €5.9 billion as of 31 December 20139 and is likely to increase in 2014.
During 2014 further incentive measures have been adopted in order to allow a major increase of mini-bonds issues. In particular, certain fiscal benefits have been extended also to mini-bonds not listed on a regulated market (see subsection iv, infra).
Recently, throughout 2015, several changes have come into effect with regard to the issue, the commercialisation and the management of AIFs for the purpose of implementing Directive 2011/61/EU on AIFMs.
The legislative activity led to significant amendments to the TUF, with the introduction of a part entirely dedicated to AIFs and to managers of AIFs.
On a secondary level, the regulatory and normative function of Consob has led to the approval and enactment of the amendments to Regulation 11971 on issuers and to Regulation 16190 on intermediaries which, at this point, are totally in line with the EU principles and rules on AIFs.
The launch of a new market segment (ExtraMOT-Pro) for placement and listing of ‘mini-bonds’In February 2013 Borsa Italiana started the listing of a new segment of the MOT bond market (Mercato Telematico delle Obbligazioni – telematic bond market) named ExtraMOT-Pro. The MOT is a specific market arranged and managed by Borsa Italiana for the listing and the negotiation of bonds as well as other debt notes (both public and private).
The new segment, ExtraMOT-Pro, was created with the specific aim of offering companies and, in particular small and medium-sized companies, a specific and flexible
9 Bank of Italy reports that from November 2012 to December 2014 mini-bonds of an amount of €5.7 billion have been issued; source: www.borsaitaliana.it.
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market in which they can list their ‘mini-bond’ relying on a cost-effective market and benefiting from the favourable tax regime provided by the new regulatory framework in respect of the listing of mini-bonds (see above).
The regulatory framework of this segment provides companies with the possibility to have a first access to capital markets, which is expected to be easier and more efficient compared with the other main markets or segments.
The listing requirements are: (1) the publication of annual financial statements for (at least) the past two years (the last of which shall be audited); and (2) the filing of an admission document in Italian (or in English) with some essential information.
Taking into account that Extra-MOT is a multilateral trading facility and in accordance with EU Directive 2003/71, the listing prospectus is not required.
After admission to the listing, the company shall publish its financial statements, disclose its rating (if a public rating is assigned), disclose any information concerning changes in the bondholders’ rights, as well as any further technical information relating to the characteristics of the instruments (e.g., payment dates, interest coupons, sinking schedule).
Trading on this segment is allowed only for professional investors and it is possible to have a specialist to support the liquidity of the instrument.
For the favourable tax regime applicable to the mini-bonds see Section II.iv, infra.
Changes in the legal framework for the placement of securities in favour of employees of the issuer (or employees of an issuer’s subsidiaries)Italian Legislative Decree No. 184 of 11 October 2012 has amended the previous regime on placement of financial instruments to employees by introducing certain changes to the TUF.
The previous regime provided that any offering of financial instruments by companies with a registered office in an EU Member State other than Italy to employees of their Italian subsidiaries was considered as ‘door-to-door selling’.
Accordingly, certain activities constituting ‘investment services’ or ‘ancillary to investment services’, such as the promotion and placement of financial instruments (e.g., group stock options) in a place other than the registered seat or the premises of the issuer, could be provided only by registered investment firms or banks.
In compliance with such provisions, the presence of an employee of an authorised intermediary or an authorised financial salesman was required during any presentation or placement of securities to the employees taking place outside the premises of the issuer (e.g., any presentation taking place in the premises of Italian subsidiaries of an EU issuer).
The new regime introduced by Legislative Decree No. 184 expressly provides that an offer of financial instruments addressed to the members of the board of directors or the supervisory board, to employees and to short-term employees of the issuer, its controlling company or its subsidiaries, if made in their respective offices or branches (thus including offices of subsidiaries of the issuer), is not considered as door-to-door selling.
As a consequence of such offers, the (sometimes onerous) intervention of investment firms and their financial salesmen will no longer be necessary.
Offers to employees are already exempted in Italy from the obligation to publish a prospectus pursuant to Article 100 TUF and the implementing Consob Regulation on
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issuers, provided that the financial instruments offered to the employees are issued by a company with its registered office in an EU Member State.
The issuers will now also be able to carry out any such offer without the presence or intervention of an authorised intermediary, most likely by simply delivering all the relevant information and documents to the employees and by having them complete the subscription form.
However, still in 2015, some uncertainty remains in respect of the provisions (including the implementing provisions) of TUF relating to the promotion and placement of financial instruments by means of distance communications (e.g., internet or group’s intranet system); as a matter of fact, it has not yet been clarified whether the offering of financial instruments to directors and employees by these means still requires the involvement of an authorised intermediary or financial salesman and, at the time of writing, an official request for clarification has been filed with Consob, the outcome of which is pending.
Equity crowdfundingItaly is the first country that has adopted a specific and systematic legislation for equity crowdfunding. This step was taken to fulfil the needs of the Italian productive system, which is based on small businesses that – since the beginning of the financial crisis – have had difficulties drawing from the capital market, especially in case of start-ups that have an innovative business.
The main feature of equity crowdfunding is that the possibility for the investor to become a shareholder of a newly incorporated company is granted, purchasing their participation online on the basis of information gathered from dedicated web portals on which start-ups present their business projects.
A particular set of provisions introduced by way of Decree-Law No. 179/2012 (converted into Law No. 221 of 17 December 2012) is dedicated to a particular kind of start-up: the ‘innovative’ start-up.
Start-ups are qualified as ‘innovative’ if they are small Italian companies that have been carrying out business for a short amount of time in the field of innovation and technology or in fields that have a social value.
Decree No. 179 assigned to Consob the task of regulating certain specific aspects of crowdfunding to create a reliable ‘environment’ capable of developing investor confidence. Consob adopted such new regulation on 26 June 2013. A public consultation on possible amendments to the regulation dated 26 June 2013 is pending as of the date on which such contribution was closed.
The system adopted in Italy to facilitate the collection of capital in favour of innovative start-ups is based on the function carried out by the online portals. Such portals are internet digital platforms supervised by Consob and are aimed at facilitating the collection of risk capital by innovative start-ups.
The portals provide the investors with information on the start-ups and on the single offers through dedicated dossiers (drafted pursuant to the standard model attached to the Consob Regulation).
On such portals, it is possible to present only offers concerning ‘risk capital instruments’ issued by innovative start-ups (i.e., equity investments), shares issued by s.p.a. (i.e., joint-stock companies) and quotas of s.r.l. (i.e., limited liability companies).
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Offers concerning debt securities are not allowed on such web portals.The portal managers have to be authorised by Consob and have to be listed in
a dedicated register. Banks and authorised investment companies are automatically authorised to manage the portals and, therefore, can be registered in the portal managers’ register, upon simple request.
The legal framework governing the equity crowdfunding sector in Italy was developed during 2012 and later, between the last quarter of 2013 and the first half of 2014, there has been a remarkable growth of web portals of equity crowdfunding (so far 10 web-portals regularly operating in the sector of fundraising towards the public for innovative start-ups are enrolled in Consob’s register).
ii Developments affecting derivatives, securitisations and other structured products
SecuritisationsIn the past 18 months there have been significant amendments to the main Italian law on securitisation (i.e., Law No. 130 of 30 April 1999) with the introduction of Decree-Law No. 145 of 23 December 2013, then converted into Law No. 9 of 21 February 2014 and Decree-Law No. 91 of 24 June 2014, then converted into Law No. 116 of 11 August 2014.
Such amendments to the Italian securitisation law constitute a further answer to face the crisis of the financial and banking sector by promoting securitisations. In more detail, the amendments aim to remove some of the restrictions and inefficiencies that characterise Law No. 130/1999 on securitisations.
The most relevant amendments in this field are:a the extended scope of application of the above-mentioned law, which is now
applicable also to securitisation transactions based on the underwriting and purchase of bonds and similar instruments by the securitisation SPV. This means that Italian SPVs can now issue securities backed also by cash flow deriving from debt securities issued by other entities and not only from commercial or financial receivables;
b the introduction of new methods to make the assignment of receivables effective vis-à-vis third parties, and in particular the possibility for the parties to apply the methods provided for the assignments of pool receivables pursuant to the Italian factoring law (Law No. 52 of 21 February 1991);
c the possibility to use asset-backed securities having as their underlying bonds and similar instruments, as assets eligible to cover the technical reserve of insurance companies and as investments compliant with the investment limits of pension funds, even in case such securities are not rated or not listed; and
d the possibility for securitisation companies to grant financing also to persons other than natural persons and microenterprises, under the condition that: (1) the borrowers of such financings are selected by a bank or an authorised financial intermediary; (2) the securities issued by the SPV in order to raise funds to grant such financings are purchased by professional investors; and (3) the bank or financial intermediary which selected the borrower retains a significant economic interest in the transaction (i.e., the retention rule).
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DerivativesWith regard to derivatives, despite the growing internationalisation of issues concerning the derivatives sector, for some years there have been no particular legislative reforms or significant developments in Italy.
Nevertheless, throughout 2014 there have been significant regulatory interventions in Italy which implemented EU Regulation No. 648/2012 (the European Market Infrastructure Regulation – EMIR) on OTC derivatives, central counterparties and trade repositories. By introducing reforms in the TUF, the Italian legislator has foreseen the rule that identified the respective responsibilities of Consob and Bank of Italy with regard to supervision: Consob is the competent authority for the compliance with the obligations provided for non-financial counterparties by the EMIR regulation. Whereas Bank of Italy shall be responsible for the recognition of third-country central counterparties (CCPs) operating under the framework of netting procedures on derivatives.
iii Cases and dispute settlement
In the past year there have been no rulings by the Court of Cassation or other courts worth mentioning as regards possible conflicts of international jurisdiction in the capital markets sector.
A decision adopted by the Court of Cassation in 2011 (Order No. 8034 of 8 April 2011) declared the Italian jurisdiction in a case of cross-border liability resulting from false prospectus. However, at the current stage, this decision represents an isolated case.
Basically, the principle set out by the Court of Cassation was and is that, if the event that gives rise to the damages is the distribution of an allegedly false prospectus, and if the distribution of the prospectus has been carried out in Italy, the nationality of the defendant or the place in which the prospectus was drafted is not relevant.
On the other hand, some rulings contributed to strengthening, from a case law point of view, the level of protection granted to the investors and reliability of the Italian market system.
As regards the relationship between investors and investment firms during the purchase of securities, in 2014 the case law trend that developed in 2012 was confirmed. According to such case law trend, some courts (in particular the Court of Verona on 15 November 2012) compared the violation by the intermediary of its obligation to provide to the clients (retail clients) information on costs to a violation of the best execution rule (introduced by the MiFID). Moreover, the same ruling reaffirmed – as regards the distinction between regulated markets and unregulated markets – that where the client does not provide an authorisation to deal on an unregulated market, the intermediary shall refrain from dealing and, if it does deal, this could imply a direct link between such behaviour and the damage deriving from the purchase of the instruments.
An important judgment was issued by the Council of State. Such decision is expected to have important consequences in the field of the enforceability of derivatives agreements entered into by investment firms and local public entities (e.g., municipalities, provinces and regions).
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The judgment followed a decision of the province of Pisa to unilaterally cancel its decision to enter into certain swap transactions with two credit institutions in connection with a bond issued by the province to refinance pre-existing debt.
The cancellation was grounded on the administrative powers granted to a public entity to act in self-protection (autotutela) due to the circumstances that the swaps allegedly contained ‘implicit costs’ (a negative mark-to-market), which made the related bond issue more expensive than the previous indebtedness.
In November 2012, the Council of State issued its judgment No. 5962/2012 favourable to the banks and overruling, in such a way a first degree decision favourable to the province.
The Council of State affirmed the important principle according to which the investment firms and the banks have no duty to disclose the implicit costs on the basis of regulatory framework that was applicable at the date of the entering into these swap agreements.
The new judgment of the Council of State is likely to curb the enthusiasm generated by the previous judgment, which boosted the legal actions of public local entities that acted seeking to free themselves from onerous derivative contracts.
The several litigations between public entities and financial operators in matters regarding derivatives continued throughout 2014. In March 2014 the Court of Appeal of Bologna stated a significant ruling that reversed the judgment of the Court of First Instance and declared the nullity of three swap agreements stipulated by the municipality of Cattolica between 2003 and 2004 and condemned the bank to return the negative differentials to the municipality. In brief the Court of Appeal deemed that derivative agreements which contain an up-front clause, providing for advance of liquidity to one of the parties, shall be entered into following a specific procedure by the public entity (i.e., the municipality), in lack of which the agreement is null and the net amount paid shall be reimbursed. Should the ruling of the Appeal Court of Bologna entail a new trend in case law, it might be decisive in inducing many administrative entities to commence legal actions in order to clean up their investment portfolios from derivatives adversely affecting their budgets.
iv Relevant tax and insolvency law
Tax lawAfter the process involving several countries aimed at introducing the ‘Tobin Tax’ on financial transactions, on 2 September 2013 the Italian Tobin Tax has officially come into force, which, at the current date, is one of the first ever taxes also on derivatives.
This fixed tax shall be paid by any clearing broker (hence not the executing brokers) dealing with derivatives the value of which derives from a share or an index of Borsa Italiana (i.e., the Italian stock exchange). The only derivatives that are not subject to such tax are:a dividend swaps;b credit default swaps;c index futures; andd derivatives that have as underlying instrument shares of small and medium-sized
enterprises.
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The Ministry of Economy and Finance has also clarified the criteria to be used to verify the value of the underlying asset and to calculate the notional value of the derivatives.
A favourable tax regime has been introduced for ‘mini-bonds’ (see subsection i, supra) issued by non-listed companies.
Indeed, according to Law No. 134 of 7 August 2012, such bonds may now benefit from a favourable tax regime previously applicable only to securities issued by banks and listed companies.
In particular, it is provided that the general provisions on the deductibility of interest expenses (provided by Article 96 of the Consolidated Law on Income Tax, which allows the deductibility up to 30 per cent of the EBITDA) be applied instead of the deductibility limitations normally provided for securities issued by non-listed companies.
In order to encourage the issue of bonds, debt obligations or mini-bonds, Law Decree No. 91/2014 converted into Law No. 116/2014 extended the application of the fiscal regime for mini-bonds already provided by the previous legislation in 2013.
It is now provided that the threshold of 26 per cent of the withholding tax does not apply to mini-bonds negotiated in a non-regulated market or in a multilateral trading facility, under the conditions that such instruments are held by one or more professional investors. This important fiscal amendment should constitute a further incentive for the spread of mini-bonds in the Italian capital market. Due to the new provision, the following kinds of bonds and mini-bonds are excluded from the application of the 26 per cent threshold of the withholding tax:a those issued by banks, companies limited by shares with shares traded on regulated
markets or multilateral trading facilities of the EU Member States and of the states parties to the agreement on the European Economic Area;
b those issued by non-listed companies, if the bonds and mini-bonds are negotiated in regulated markets or in multilateral trading facilities; or
c those issued by non-listed companies, if the bonds and mini-bonds are not negotiated in regulated markets or in multilateral trading facilities, but are held by one or more professional investors.
Insolvency lawTo foster the economic upturn, the Bankruptcy Law has been amended several times in the past years.
In 2012, the Italian government adopted amendments to the Italian Bankruptcy Law with the aim of simplifying the debt restructuration of distressed companies.
The debtor is now more easily able to commence the procedure for an in-court arrangement with creditors, which is a procedure aimed at restructuring the indebtedness with the agreement of the majority creditors and under the supervision of the Bankruptcy Court.
More recently, Decree-Law No. 69 of 21 June 2013 introduced further amendments to the arrangement with creditors procedure. Such amendments concern the ‘blank arrangement with creditors request’, which in 2012 was largely used by companies.
In practice, to foster the recovery of companies, the Development Decree (Decree-Law No. 83 of 2012, as converted into law) granted to the debtor the chance to file a request to be admitted to the arrangement with creditors procedure, reserving
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the right to file the proposal and recovery plan as well as the documents required by law at a later date. The ‘blank request’ now allows the debtor to anticipate the ‘protective effects’ in respect of the executive actions. Such ‘possibility’, as ascertained throughout 2012, gave rise to ‘abusive’ behaviours by the debtors, which tried to block the individual executive actions and to procrastinate with the bankruptcy declaration.
The 2013 legislative amendments are aimed at ‘filling such gaps’ that emerged in the first year of application of the ‘blank’ request for arrangement with creditors.
Now the debtor is also required to file – together with the ‘blank request’ – a list containing the names and amounts owed to creditors. Such provision is aimed at making ‘transparent’ from the very beginning the amount of debt that will be dealt with in the possible future bankruptcy procedure.
Moreover, to increase the level of transparency of the debtor’s request, under the provisions introduced in 2013 the debtor shall also provide periodical information in the phase between the filing of the ‘blank request’ and the admission to the arrangement with creditors.
A significant new feature in order to encourage the capital market (particularly with reference to securitisations) has been introduced by Decree-Law No. 145/2013, converted into Law No. 9/2014. Preliminarily, it is worth mentioning that the rule regarding securitisations which states that payments made by assigned debtors to the SPV are still exempted from the ordinary rules regarding insolvency revocatory actions continues to be effective. But from 2014 these payments are also exempted from the ineffectiveness regime provided for the payments expiring at the moment of the insolvency declaration or later, if these payments have been made by the bankrupt entity during the two years prior to the insolvency declaration.
This new rule strengthens the general regime of bankruptcy remoteness for the payments of assigned debts within the context of securitisation transactions.
Law Decree No. 83/2015, converted into Law No. 132 of 6 August 2015, reformed the insolvency law system through a number of amendments (regarding the requirements for the appointment of the official receiver, the liquidation plan, the sale modes and the completion of the insolvency procedure in the presence of pending legal actions). The main amendments have been made to the arrangement with creditors procedures.
It has in fact established the possibility to submit alternative offers to those suggested by the debtor in the restructuring plan, such as the purchase of the business, or of one of its branches or of specific assets, has been established. This possibility is subject to an assessment by the bodies supervising the procedure, which may deem it useful to start a beauty contest to find a purchaser on the market at more advantageous conditions, thus capable of ensuring the greater satisfaction of the relevant creditors.
Another important reform, also regarding the arrangment with creditors, provides for the insolvent entrepreneur’s obligation to ensure that unsecured creditors receive no less than 20 per cent of their credit in case of an agreement with creditors aimed at the liquidation of all assets.
Finally the reform has changed the principle qualifying silence as a favourable vote, therefore it will now be necessary to reach the majority by express favourable votes (in person or via mail).
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v Role of exchanges, CCPs and rating agencies
During 2014, both Consob and Bank of Italy continued their regulatory activity aiming at reducing the risks that might be caused by ‘over-reliance’ on the evaluations carried out by the rating agencies.
In 2013, both Consob and Bank of Italy adopted new resolutions according to which entities carrying out asset management for collective investments shall adopt adequate internal procedures to avoid the evaluation of the creditworthiness and the reliability of issuers being exclusively based on the evaluation rendered by the rating agencies.
No significant developments in Italy occurred in relation to this, apart from the implementation of Regulation No. 648/2012 (EMIR) mentioned above.
With regard to rating agencies, in 2015, in order to provide for the implementation of EU obligations contained in Directive 2013/14, the TUF was amended so as to include provisions whereby, to assess the credit rating of the assets in which the UCITSs invest, managers shall use systems and procedures that do not envisage the exclusive or mechanical reliance on the assessments of the credit ratings agencies.
vi Other strategic considerations
New rules for the takeover bidsImportant new features were introduced throughout 2014 in relation to public takeover bids, also due to the turmoil generated in 2013 when Telefónica (the main Spanish telecommunications company) realised an ‘indirect’ takeover on Telecom Italia (the first Italian operator in the field of telecommunications and owner of the network infrastructure). Telefónica purchased the majority of shares of the main shareholder of Telecom Italia (i.e., Telco) which owned a relative majority of Telecom’s stock capital (22.4 per cent).10
The previous legislation on mandatory takeover bids in fact provided that mandatory takeover bids in Italy were triggered when a shareholder controlled (directly, indirectly or by means of shareholders’ agreements) a quota higher than 30 per cent of the stock capital of the issuer.
Although Telefónica owned only a relative majority of Telecom’s stock capital, it had the substantial control over the first Italian telecommunication company and it became clear that there were certain systemic limits in the Italian rules concerning mandatory takeover bids. Several attempts were launched to also change the legislation with regard to relative majorities, but no legislative intervention occurred before the conclusion of the Telefónica-Telecom transaction.11
In order to prevent similar situations in the future, Decree-Law No. 91 of 24 June 2014 converted into Law No. 116 of 11 August 2014 finally introduced a new
10 At the time of writing Telefónica has re-transferred its stake in Telecom Italia to the French multinational mass media and telecommunication company, Vivendi.
11 That is, the attempts of amendments regarded also the obligation to launch a mandatory takeover bid in case of substantial control, if a shareholder controls less than 30 per cent of the stock capital but more than 15 per cent.
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important rule regarding public takeover bids. It provides that a mandatory takeover bid has to be launched by all persons that hold a stake greater than 25 per cent, where there is no other shareholder with a higher stake. Nevertheless, for small and medium-sized enterprises (the TUF provides a definition of such enterprises in terms of turnover of up to €300 million and capitalisation in the last calendar year of below €500 million) a different threshold may be contemplated in the by-laws, but may be no less than 25 per cent or greater than 40 per cent.
III OUTLOOK AND CONCLUSIONS
At this time, the capital market seems to be moving towards ‘light’ solutions instead of relevant and consistent issues of securities.
‘Disinvestment’ and listing activities in relation to important sectors such as the public sector deserve to be analysed separately. Throughout 2014 and during the first few months of 2015, a new phase of privatisations and divestments of public enterprises began. Although the extent of activities in the capital market sector ascribable to the privatisation of public entities is not comparable, in terms of volume and structural complexity, to the previous stages of public divestment (1980s and 1990s), the transfer of shares owned by the Italian State to Poste Italiane SpA and ENAV (through the Ministry of Economy and Finance) is expected to be completed in 2015.
In February 2015, through the accelerated book-building procedure, the Ministry of Economy and Finance transferred shares to ENEL for an amount equal to 5.74 per cent of the company’s share capital, thereby reducing its participating interest from 31.24 per cent to 25.50 per cent.
The IPO market, which is almost still, does not seem to offer great prospects, except for listings in alternative markets, such as the AIM Italia, created for small and medium-sized companies.
The trend that emerged in 2014 and in the first months of 2015 is to support the economy by investing more in solutions tailored for small and medium-sized companies, which have always been the backbone of the Italian productive system and of the Italian economy.
The attention towards this sector of the Italian economy (already confirmed by the newly introduced mini-bonds provisions) suggests that there will probably be more legislative initiatives aimed at channelling private equity, both national and foreign, towards instruments issued by small and medium-sized companies.
In this respect, funds that invest in portfolios composed of small to medium-sized instruments issued by companies with reliable income and growth prospects that, instead of turning to banks for credit (which is difficult to obtain during this long-lasting credit crunch), turn to the ‘debt’ market are expected to gain popularity.
Further developments will most likely entail a further involvement, in the small and medium-sized companies capital market.
The expected laws should broaden the investment options for such entities (which hold consistent liquidity) allowing them to invest in bonds and unlisted mini-bonds, shares of funds that mainly invest in mini-bonds, and instruments that derive from securitisations (even securitised mini-bonds), even if not rated.
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Chapter 15
JAPAN
Akihiro Wani and Reiko Omachi 1
I INTRODUCTION
i Structure of financial laws and regulations in Japan
The Financial Instruments and Exchange Act (FIEA)2 and the Cabinet Order and Cabinet Office Ordinances thereunder are the most basic and important direct regulations on capital markets in Japan. The FIEA regulates the financial instruments business and financial transactions, including securities offerings and distributions for the purpose of maintaining the fairness of capital markets, protecting investors and developing the economy. In Japan, there are no overarching laws that regulate all financial institutions, which means that each type of institution is regulated separately; for example, banks are regulated by the Banking Act,3 securities firms are regulated by the FIEA and insurance companies are regulated by the Insurance Business Act.4 The FIEA is still important, however, from the standpoint of these financial institutions because it applies, mutatis mutandis, to relevant acts and regulations and, as a result, other financial institutions are actually regulated by the principles of the FIEA in many respects, such as when conducting securities and derivatives transactions.
Additionally, there are several other laws and regulations that specifically govern certain types of financial transactions including derivatives transactions, securitisations, structured products, investment funds, trusts and partnerships, including the Commodity
1 Akihiro Wani is a senior counsellor and Reiko Omachi is an of counsel at Morrison & Foerster LLP / Ito & Mitomi. The authors express sincere thanks to Markus Christoph Glodek, for his assistance editing the chapter.
2 Act No. 25 of 1948, as amended.3 Act No. 59 of 1981, as amended.4 Act No. 105 of 1995, as amended.
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Derivatives Act,5 the Act on Investment Trusts and Investment Corporations,6 the Limited Partnership Act for Investment,7 the Act on Securitisation of Assets,8 the Trust Act9 and the Companies Act.10
ii Roles of regulatory and supervisory agencies and of the central bank in the Japanese capital markets
The Financial Services Agency (FSA) is responsible for, inter alia, ensuring the stability of the Japanese financial system, protecting investors and carrying out surveillance over securities transactions. The FSA delegates powers relating to securities registration to local finance bureaus (LFBs), and powers relating to daily market surveillance, inspections of financial instruments firms, inspections of disclosure documents and related activities to the Securities and Exchange Surveillance Commission (SESC).
The commodity derivatives business is regulated by either the Ministry of Economy, Trade and Industry (METI) or the Ministry of Agriculture, Forestry and Fisheries (or both), depending on the type of underlying commodity.
The Bank of Japan (BOJ), which is Japan’s central bank, is independent of the Japanese government, including the FSA, similar to many other central banks in other jurisdictions. Its mission mainly focuses on the implementation of monetary policy, treasury and government securities-related operations.
Additionally, there are several self-regulatory organisations (SROs) whose membership consists of financial institutions. Among them, the Japan Securities Dealers Association (JSDA) is the most representative and important organisation in the Japanese capital markets. The JSDA promotes sound business development and protects investors by ensuring that securities transactions by its members are conducted fairly and smoothly.
There is also an electronic system called ‘Compliance WAN’, which can be accessed by the SESC, LFBs, securities companies, SROs (including the JSDA) and stock exchanges. This system enables the SESC and LFBs to utilise transaction data sent, for example, from securities companies for the purpose of market surveillance.
iii Financial dispute resolution in Japan
Several options exist for resolving financial disputes in Japan: judiciary proceedings in court, arbitration procedures at an arbitral tribunal and alternative dispute resolution (Financial ADR) procedures.
Usually, a party to a financial transaction is able to sue the counterparty in court, and once a court procedure is chosen, the parties will be entitled to a decision by a district court and two instances of appeal to the High Court and the Supreme Court.
5 Act No. 239 of 1950, as amended.6 Act No. 198 of 1951, as amended.7 Act No. 90 of 1998, as amended.8 Act No. 105 of 1998, as amended.9 Act No. 108 of 2006, as amended.10 Act No. 86 of 2005, as amended.
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Alternatively, a party may elect arbitral institutions including the Japan Commercial Arbitration Association or the International Chamber of Commerce (ICC) for arbitral awards that are deemed to be final and binding by the courts. Japan is a member of both the ICSID Convention and the New York Convention, and Japan’s Arbitration Act11 is based on the UNCITRAL Model Law.
In addition to court and arbitral procedures, an investor may seek settlement of a financial dispute by choosing the Financial ADR procedures, a simplified and expeditious resolution system.
iv Scope of jurisdiction
In general, it is believed that Japanese laws and regulations do not apply to activities by foreign companies outside Japan as the scope of jurisdiction should be limited to Japanese territory. With respect to cross-border cases, however, there is no provision that specifies the extent of the application of financial laws and regulations, and the scope of the powers of regulatory authorities is still open to interpretation. Even so, it is almost certain that Japanese laws and regulations apply when a foreign company solicits an investor who resides in Japan, even from outside Japan (see Section II.v, infra).
In practice, the FSA maintains close contact with the regulators of foreign countries on a daily basis. Financial institutions should pay careful attention to the relevant overseas regulations and to Japanese regulations as well.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
Framework for legislation or regulation on debt and equity offerings In order to make a debt or equity offering (whether primary or secondary), a securities registration statement (SRS), mainly consisting of information about the securities being offered and about the issuer, must be filed with the director-general of the LFB, unless such offering constitutes a ‘private placement’ that is exempt from disclosure obligations (private placement exemption). Two major private placement exemptions are the small-number exemption (which may be available when solicitations are made to no more than 49 investors in Japan) and the professional investors exemption (which may be available when solicitations are made only to qualified institutional investors (QIIs) or specified investors defined in the FIEA). Detailed conditions for each exemption differ depending on the type of security being offered.
Once a company has filed the SRS with the LFB as described above, it becomes subject to ongoing disclosure obligations and must file annual securities reports, semi-annual or quarterly reports, and extraordinary reports with the LFB, as all listed companies in Japan must do.
11 Act No. 138 of 2003, as amended.
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Recent developments in regulationsEquity crowdfundingIn order to provide risk money to new growth companies, the FIEA was revised in May 2015 to significantly relax regulations on financial instruments business operators (FIOs) that handle public offerings, secondary distributions or private placements of unlisted and certain other securities through investment crowdfunding. A business related to investment crowdfunding (electronic small amount subscription business) is eligible to operate under the relaxed regulations if the total issue amount of securities is less than ¥100 million and the subscription amount is less than ¥500,000 per person. This has enabled venture companies to collect money from a large number of individual investors investing small amounts of money.
Further, minimum capital requirements have been reduced to ¥10 million for FIOs dealing with electronic small amount subscriptions for Type I securities, and to ¥5 million for FIOs dealing with electronic small amount subscriptions for Type II securities. Moreover, FIOs conducting an electronic small amount subscription business are allowed to engage in other businesses (e.g., incubation business), in addition to the financial instruments business. Solicitation for investments in unlisted shares, which was generally prohibited under the former self-regulatory regime of the JSDA, is now permitted as long as it is performed by an electronic small amount subscription business through the internet.
Concurrent with relaxing the regulations, the FIEA also introduced new rules applicable to electronic small amount subscription business in order to protect investors. For instance, FIOs are required to perform ‘due diligence’ on issuers and provide information about such due diligence as appropriate through the internet.
Public offering or secondary distribution on the internetAs of May 2015, issuers are able to publish information about issue price, distribution price and similar information on the internet as a supplement to the SRS after the filing of the SRS. Once such information is published on the internet, the issuer should obtain confirmation from the subscribers or transferees that they have acquired critical information, such as price, interest or amount to be paid, by making a phone call or sending a facsimile or email addressed to the subscribers or transferees.
Promoting new listings on the marketOne obligation that has been considered burdensome for newly listed companies is the requirement to file internal control reports audited by a certified public accountant. To address this issue, the FIEA was revised in May 2015 to allow companies to choose not to file their internal control report for a period of three years after listing, taking into account that newly listed companies have already been subjected to strict examination by the stock exchange in connection with the listing. This choice will, however, not be available to listed companies with capital amounts of ¥10 million or more.
Disclosure documents In order to reduce the disclosure burden on issuers and to facilitate and strengthen the functioning of capital markets, the METI has in its April 2015 ‘Report on the Study Group concerning Promoting Dialogue between Companies and Investors for
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Sustainable Growth’, while paying due attention to the importance of the disclosure, proposed measures that will ease the preparation of several mandatory disclosures (the SRS under the FIEA, the Business Report and financial statements under the Companies Act, and the summary of financial results of TSE rules) as well as the preparation of certain voluntary disclosures by rationalising the contents and items required to be disclosed. To address the proposals raised in the report, the METI’s working group on disclosure of corporate information is discussing the reform of the mandatory and voluntary disclosure system.
Insider tradingThe FSA relaxed insider-trading regulations in September 2015 to allow trades that are carried out based on a plan or contract that had been determined or agreed on before the parties to the trade acquired the inside information. This amendment permits certain types of non-problematic trading and allows, for example, directors or officers to sell shares obtained through their stock options regardless of the time at which they acquired knowledge of sensitive information.
New trading system for unlisted start-up shares In May 2015, the FSA and the JSDA created a new trading system for unlisted start-up shares called the ‘Shareholders’ Community System’ in order to encourage investors to invest in venture businesses. The JSDA plans to begin operating this new trading system shortly. Currently, the JSDA provides the ‘Green Sheet Market’ for unlisted shares, but the number of registered companies remains small because of the JSDA’s strict disclosure requirements and insider-trading restrictions which are similar to those applicable to listed companies. The JSDA has decided to abolish the Green Sheet Market and to create a new trading system for unlisted shares. The new market will facilitate the trade of unlisted shares among a limited number of investors called an ‘investment group’ consisting of directors or employees, shareholders, business partners or consumers of the issuing company. Disclosure requirements and insider-trading regulations under the new system will largely be relaxed and shares will be permitted to be traded only among the ‘investment group’ regulated by the rules of the JSDA.
Curtailing settlement risks At present, the JSDA is actively advancing efforts for shortening the Japanese government bonds (JGBs) settlement cycle and the stock trading settlement cycle in order to facilitate and strengthen the functioning of the capital markets.
Financial benchmarks In May 2015, an amendment to the FIEA became effective and a new regulatory framework for organisations that set financial benchmarks such as the Tokyo Interbank Offered Rate (TIBOR) (financial benchmark administrators) was introduced. Under the amended FIEA, the FSA may designate financial benchmark administrators that are required to establish and observe operational rules regarding their system of governance, the quality of the benchmarks, the quality of the methodology and accountability, which are in line with the International Organization of Securities Commissions’ (IOSCO) principles for
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financial benchmarks. Financial benchmark administrators are subject to supervision by the FSA (not by the SESC), including on-site inspection. Each reference bank or financial institution that submits rate data is subject to and monitored for compliance with the code of conduct agreed upon with the financial benchmark administrator. Manipulative activities by the FIOs or registered financial institutions (RFIs) are sanctioned. The FSA has designated the JBA TIBOR Administration (JBATA) as a financial benchmark administrator. The JBATA engages in the calculation, publication and administration of JBA TIBOR which is a ‘virtual’ rate rather than ‘actual’ rate, and further is currently considering the introduction of new financial indices (TIBOR+) that are expected to be based on ‘actual’ transactions in view of the principles of the IOSCO.
ii Developments affecting derivatives, securitisations and other structured products
The FIEA is the most basic and fundamental instrument of regulation applicable across the spectrum of derivatives, securitisations and other structured products. In addition, there are other laws governing derivatives, securitisations and other structured products such as the Act on Investment Trusts and Investment Corporations, the Limited Partnership Act for Investment, the Act on Securitisation of Assets, the Trust Act and the Companies Act. Other related laws and regulations may apply depending on the type of the product.
In 2006, the FIEA underwent radical amendment (it was formerly the Securities and Exchange Act), as did the Commodity Derivatives Act in 2011 (formerly the Commodity Exchange Act). The main purpose of these amendments was to provide more complete protection for investors and to improve and enhance the convenience of participating in the Japanese market. While these amendments introduced strict and rigid regulations for investor protection, there are exceptions for rules and regulations that are applicable to financial instruments businesses targeting only professional investors, QIIs or commodity derivatives professionals. In other words, the rules and regulations applicable to the financial instruments business can differ depending on the type of investor. The FSA has also promoted a considerable number of further amendments to the FIEA in recent years in order to implement agreements reached at the G20 summits, which aim to strengthen the global financial system by fortifying prudential oversight, improving risk management, promoting transparency and continuously reinforcing international cooperation.
DerivativesIn light of the statements made by leaders at the G20 summits calling for improvements in the over-the-counter (OTC) derivatives markets, there have been several legislative and regulatory developments intended to implement policies that reflect such improvements.
First, a Japanese version of an electronic trading platform was introduced on 1 September 2015. FIOs and RFIs are required to use an electronic trading platform when engaging in OTC interest rate swap transactions denominated in Japanese yen in order to enhance the immediate disclosure of information about the derivatives trade. More specifically, trades that meet the following criteria are subject to this regulation:a trades clearable through the Japan Securities Clearing Corporation (JSCC);b trades that are not packaged trades;
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c trades with a six-month yen LIBOR floating rate;d trades with a fixed notional throughout the maturity agreed by counterparties;e trades with an effective date of T+2 from the trade date;f trades with a swap tenor of five, seven or ten years;g trades for which, with respect to interest rate payment and roll date, the ‘business
day’ is specified as Tokyo and London;h trades for which the business-day convention is specified as ‘modified following’
andi trades for which, with respect to the fixed leg, the payment frequency is six
months and the day-count fraction is Actual/365 (Fixed) and, with respect to the floating leg, the payment frequency is six months and the day-count convention is Actual/360.
However, FIOs and RFIs may be exempt from the mandatory use of an electronic trading platform if:a the transaction is booked in the trust account;b the transaction is between the affiliates;c one or both of the parties is not an FIO, RFI or other certain designated financial
institution; ord the average outstanding notional amount of one or both of the parties is less than
¥6 trillion.
Concurrent with this regulation, a licensing system, minimum capital requirements, record-keeping rules and other regulations apply to the operators of electronic trading platforms.
Second, on 3 July 2014, the FSA proposed draft amendments to the Cabinet Office Ordinance of the FIEA to implement BCBS-IOSCO’s margin requirements for non-centrally cleared derivatives. Under this proposal, there were variation margin (VM) obligations and initial margin (IM) obligations, which would basically apply to all non-centrally cleared derivatives with some exceptions. However, responding to BCBS-IOSCO’s revision of the document stated above, the FSA has withdrawn this proposal and announced that it will reconsider the margin regulations and schedule.
Apart from the foregoing, the CDA and the Electricity Business Act12 were revised to approve electricity futures and to allow electricity futures to be traded on commodity futures exchanges in Japan. This revision is scheduled to be implemented in 2016 and the METI’s council is discussing the practical framework for electricity futures listings. In connection with this, it is expected that the METI will also amend the CDA by March 2017 by revising the restrictions on the solicitation for commodity trading, including electricity futures and the exemptions therefrom.
12 Act No. 170 of 1964, as amended.
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Investment fundsIn order to facilitate transactions using investment trusts or investment corporations including J-REITs, the regulations on investment trusts and investment corporations were amended in December 2014.
With respect to investment corporations, first, an investment corporation is permitted under the amended regulations to repurchase its equity or undertake financing by way of a rights offering or certain other transactions. This revision provides investment corporations with more options for financing or raising capital. Second, investment corporations are now allowed to use a special purpose company to hold overseas real estate when local regulations prohibit an investment corporation from directly holding such real estate. Third, in order to improve J-REIT governance, an investment corporation is required to obtain prior approval from the board of the investment corporation when making substantial acquisitions of property from any interested person (e.g., a sponsor company).
With respect to investment trusts, the asset manager is required to deliver a ‘summary of an investment performance report’ to all investors on a regular basis, as current investment reports are often expansive and complicated. At the same time, the merger process for small-scale investment trusts will be simplified in order to improve their operational efficiency.
With respect to the introduction of the Japanese Stewardship Code, see Section II.v, infra.
Sales of partnership rightsIn response to problematic incidents involving FIOs engaged in Type II financial instruments business (i.e., ‘Type II FIOs’ including vendors of partnership rights), the FIEA was revised to strengthen regulations applicable to Type II FIOs in May 2015. Under the revised regulations, Type II FIOs are prohibited from soliciting investments in partnership rights while knowing that money to be invested will in fact be used for a different purpose (it is already prohibited for Type II FIOs to solicit investment in partnership rights if the partnership agreements do not stipulate segregation of funds). Furthermore, Type II FIOs are required to have a domestic office with a domestic representative and are encouraged to join a self-regulatory organisation.
In addition, the FSA is concerned about general partners who rely on the ‘QII business exemption’ under Article 63 of the FIEA. Under the current regulation, if a general partner relies on the QII business exemption, up to 49 non-QII investors may invest in the partnership under the relaxed rules so long as at least one QII joins the partnership as a limited partner. Given that general partners sometimes use this exemption to solicit non-QIIs without providing adequate information, the FIEA will be amended by June 2016 to limit:a the category of QII limited partners who are eligible for the QII business
exemption to investors that own invested assets of more than ¥500 million; and b the category of non-QII limited partners to investors that are corporations having
assets or capital amount of more than ¥50 million, governments, local authorities, or those closely connected with the general partner, although there will be certain exceptions for venture capital funds.
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Furthermore, a general partner will not be able to rely on the QII business exemption when another exiting fund managed by the same general partner plans to become the only QII with respect to the new fund. Additionally, the FSA will have the power to conduct inspections, give orders or impose administrative sanctions, and the amended FIEA will disqualify a general partner who has received an order to discontinue its business or who has been subject to criminal sanctions in the past, as well as a general partner who is a foreign individual or corporation not having any representative in Japan. The regulations applicable to solicitation of non-QII will also be strengthened by introducing new regulations regarding suitability, explanatory documents to be delivered prior to the conclusion of a contract, fiduciary duties, restrictions on advertisement, segregation of investors’ funds and delivery of investment reports.
iii Relevant tax and insolvency law
Tax lawIn general, all corporations in Japan are subject to treatment as taxable entities. Foreign corporations are liable to pay certain types of corporate tax and income tax on domestic-sourced income, which varies depending on whether the foreign corporation has a permanent establishment in Japan. Non-corporate forms that are sometimes used as a vehicle for financial transactions, such as general partnerships, limited liability partnerships or trusts, are, in principle, fiscally transparent for Japanese tax purposes. However, in a tax dispute over whether a limited partnership established under the laws of the state of Delaware (Delaware LP) is a corporation for Japanese taxation purposes, the Supreme Court ruled on 17 July 2015 that a Delaware LP constitutes a corporation under Japanese tax law. This ruling is expected to have an effect on tax return practice and the use of foreign limited partnerships because it was fairly common that tax returns were filed assuming that the foreign limited partnership did not fall in the category of corporations for Japanese taxation purposes.
Apart from the above, certain reforms on domestic taxation that may affect investors have recently been implemented.
First, the combined national and local effective corporate tax rate will be reduced to 32.11 per cent from the current 34.62 per cent for taxable years beginning on or after 1 April 2015. A further rate cut is planned for 2016, which would result in a combined effective tax rate of 31.33 per cent. The government is planning to lower the combined effective tax rate to below 30 per cent over several years. The reduction in the corporate tax rate is intended to strengthen Japan’s attractiveness as a location and enhance the competitiveness of Japanese companies.
Second, a Japanese version of an individual saving account (ISA) system called ‘NISA’ was introduced in 2014, whereby investments of up to ¥1 million per year are tax-free if the investment has been made through an ISA. An investor can hold an ISA as a tax-exempt account for a maximum of five years falling within the period from 2014 to 2023. This system is steadily promoting greater participation in the stock market by individual investors and has attracted the interest of retail investors. In order to further develop this system, the government will increase the maximum amount of the tax-free investment of NISA to ¥1.2 million in 2016.
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Insolvency lawThere have been no material amendments to the insolvency laws13 or the Companies Act.
iv Role of the exchanges, central counterparties and rating agencies
In principle, the FIEA regulates financial instruments exchanges, financial instruments clearing organisations (central counterparties, or CCPs) and rating agencies. The CDA regulates the commodity exchanges.
Japan Exchange Group, Inc (JPX) is the largest company operating financial instruments exchange markets to provide market users with venues for cash equity trading through its subsidiary, Tokyo Stock Exchange Inc. (TSE), and for derivatives trading through Osaka Exchange, Inc (OSE). TSE also offers companies an alternative listing framework to meet the needs of professional and other investors, which are Mothers, JASDAQ, TOKYO PRO Market and the TOKYO PRO-BOND Market. In addition to providing market infrastructure, JPX also provides clearing and settlement services through a central counterparty, JSCC, and conducts trading oversight to maintain the integrity of the markets. JPX has not yet, however, commenced commodity trading operations because the Tokyo Commodity Exchange Inc (TOCOM) has not decided to become a subsidiary of JPX, and is still considering alternative survival strategies amid Japan’s shrinking commodities market.
ExchangesOn 30 April 2015, TSE established a new market for funds that invest in infrastructure and related facilities, including energy-based power generation facilities (e.g., solar plants), public infrastructure and other infrastructure (e.g., airports, roads and ports). Rules on the infrastructure market are based on the framework provided for the REIT market. Infrastructure investment funds are expected to pull in capital from private investors to finance building infrastructure.
During 2014, TSE discussed with securities companies extending its equity market trading hours, but TSE decided not to extend trading hours because many securities companies were against the extension due to the increase in cost.
Central counterpartiesSince November 2012, FIOs and RFIs have been required to clear certain types of OTC derivatives transactions via the mandatory use of central clearing under the FIEA.
Under the current FIEA, the types of OTC derivatives transactions that are subject to mandatory clearing are credit derivatives swaps (CDS) on Markit iTraxx Japan referencing the credit of no more than 50 Japanese corporations, and ‘plain vanilla’ yen-denominated interest rate swaps (IRS) referencing three-month or six-month JPY LIBOR or Euro JPY TIBOR, which are eligible for clearing services provided by a
13 Which include the Bankruptcy Act (Act No. 75 of 2004, as amended), the Civil Rehabilitation Act (Act No. 225 of 1999, as amended), the Corporate Reorganisation Act (Act No. 154 of 2002, as amended), and the Act Concerning the Special Provisions for the Reorganisation of Financial Institutions (Act No. 95 of 1996, as amended).
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Japanese CCP (i.e., JSCC). Certain transactions, however, such as transactions with a party that is not an FIO or RFI, transactions that are booked in the trust account or transactions between affiliates may be exempt from the mandatory use of the CCP.
With respect to client clearing, CDS or IRS transactions with a party that is not a clearing participant of the CCP may be exempt from mandatory clearing; however, IRS transactions are subject to mandatory clearing (through client-clearing services) when one or both parties are FIOs or RFIs that are registered with the FSA. Such registration is required when the average outstanding notional amount of OTC derivatives is ¥1 trillion (from 1 December 2015, ¥300 billion) or more. Furthermore, starting on 1 December 2016, IRS transactions that are booked in a trust account will become subject to mandatory clearing when the trust account’s average outstanding notional amount is ¥300 billion or more, notwithstanding the exemption described above, in which transactions are booked in the trust account.
JSCC and its parent company, JPX, expect that many other market participants will become members of the clearing framework at JSCC in the near future, and JSCC has expressed its intention to expand its range of services. For example, it is providing clearing services for listed derivatives and FX transactions traded on the OSE in addition to the clearing services offered for equities transactions traded on the TSE. Furthermore, with a view towards enhancing the convenience of the market, JSCC extended its clearing services to IRS transactions denominated in US dollars and euros on 24 September 2015.
With respect to commodity derivative transactions, Japan Commodity Clearing House Co Ltd (JCCH), which provides clearing services for the transactions traded at the TOCOM or the Osaka Dojima Commodity Exchange, extended its clearing services to OTC commodity derivative transactions starting on 16 May 2014.
Transaction information and trade repositoriesSince November 2012, certain financial institutions, CCPs and trade repositories have been required to report OTC derivatives transaction information to the FSA under the FIEA. More specifically: a FIOs and RFIs are required to store transaction information and report this
information to the FSA on or before the third business day of the following week, unless the transaction was cleared by a Japanese or foreign CCP (registered in Japan) or the information has been provided to the ‘trade repositories’ within three business days.
b Japanese and foreign CCPs (registered in Japan) must record transaction information and report this information to the FSA within three business days.
c Trade repositories must record transaction information provided by FIOs or RFIs and report this information to the FSA within one business day.
The FSA uses such data to publish information on the number of transactions and total amounts. The DTCC Data Repository Japan has provided trade depository services in Japan as a ‘Foreign Trade Repository’ under the FIEA since March 2013.
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v Other strategic considerations
The FIEA, which imposes restrictions on the solicitation of certain securities transactions (including offerings, purchases, and sales of securities, but excluding securities lending and repo transactions) directed at residents in Japan, applies regardless of whether the solicitation is domestic or from overseas. This means that direct solicitation for securities transactions is permitted without satisfying licensing requirements only when it is directed at QIIs such as banks, FIOs and insurance companies. All other direct solicitations for securities transactions directed at residents in Japan are strictly prohibited by the FIEA and require agency or intermediary services by a licensed FIO. Similar but different standards apply to the solicitation for derivatives transactions from overseas (which are also controlled by the FIEA). In any event, careful legal due diligence is highly recommended before entering into securities transactions with residents in Japan.
Money-lending activities from overseas to residents in Japan are restricted mainly under the Money Lending Business Act14 and the Usury Act.15 Briefly stated, direct lending from overseas to residents in Japan is prohibited except if a foreign bank uses a branch in Japan that is licensed as the foreign bank’s branch under the Banking Act. It is noteworthy that this restriction does not apply when the borrowing is made in the form of a bond issuance.
It is particularly noteworthy that the government is seeking to promote the internationalisation of capital markets by introducing measures designed to meet global standards. As an example, the amendment to the Companies Act implemented in May 2015 to improve corporate governance in principle requires a listed company to have one or more outside directors and regulates the relationship between a parent company and its subsidiary more strictly. Also, TSE amended its listing rules in order to formulate Japan’s Corporate Governance Code, which was finalised by the FSA’s council and entered into force in June 2015. Further, the government introduced the Japanese Stewardship Code (which closely follows the voluntary ‘comply-or-explain’ regime of the UK Stewardship Code) in February 2014 in order to guide institutional investors in their stewardship responsibilities to promote medium or long-term sustainable returns to their clients. Nearly 200 institutional investors (such as trust banks, insurance companies, investment management companies, pension funds, etc.) have adopted the Japanese Stewardship Code and Japanese institutional investors which are often described as ‘silent investors’ are expected to take an active stance in constructive dialogue with companies and in the exercise of voting rights. In addition, the government continues to discuss measures that will allow foreign investors to access financial statements online and that will enhance foreign investors ability to attend shareholders’ meetings. The government believes that these amendments will encourage investments in the capital and stock market of Japan.
Furthermore, the FSA is moving towards allowing banks or financial holding companies to establish or acquire subsidiaries engaged in the e-commerce, mobile payments and other IT businesses beyond traditional financial services (see Section III, infra).
14 Act No. 32 of 1983, as amended.15 Act No. 195 of 1954, as amended.
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On the other hand, some regulations have been tightened. First, the Act on Prevention of Transfer of Criminal Proceeds,16 which is the main statute for anti-money laundering, will be amended by November 2016 to require certain business operators to make an assessment of whether a transaction is suspicious and could involve an illegal transfer of money. When making such assessment, a business operator must follow procedures to be specified by the governmental authority. Second, the FSA amended the ‘Guidelines for Personal Information Protection in the Financial Industries’ and the ‘Practical Guidelines for the Security Policies regarding the Personal Information Protection in the Financial Industries’ in July 2015. Under this amendment, business operators are required to verify the process by which a third party has acquired personal information when the business operator is to receive any personal information from that third party. Also, if a business operator outsources the management of personal information, the business operator is required to supervise the outsourcing contractor. Third, in April 2015, the FSA amended the comprehensive guidelines for financial institutions in order to enhance the cybersecurity management systems of financial institutions and to strengthen security measures for online financial services. In July 2015, the FSA published the ‘Policy of Approach to Strengthen the Cybersecurity in the Financial Industries’ in order to share common awareness regarding cybersecurity with financial institutions, aiming to encourage financial institutions to strengthen cybersecurity.
Furthermore, several basic laws (especially the Civil Code) are being reviewed for future amendment, and such amendments are likely to affect the capital markets in Japan. Incidentally, the consumption tax increased to 8 per cent in April 2014, and is scheduled to further increase to 10 per cent in April 2017. While the consumption tax is not directly applicable to financial transactions, the increase in the consumption tax may have broader implications for the Japanese economy, including the financial markets.
III OUTLOOK AND CONCLUSIONS
It is reported that the Financial System Council of the FSA is considering amendments to the Banking Act to cover Fin-Tech related activities as ancillary business of a bank or the business of a bank’s affiliate. Although Fin-Tech is globally discussed as the new frontier for application of internet technologies to the financial sector, it should be noted that in Japan Fin-Tech is discussed in the context of allowing existing banks to participate in the IT business such as owning an IT company, operating a cybermall and providing settlement services in cyberspace, but not in the context of encouraging new small enterprises to enter into the banking business like the UK’s challenger banks which aim to provide online services without physical presence (see Section II.v, supra). The reason for this is probably that Japan has a large number of small financial institutions (i.e., regional banks and credit banks) and Japanese regulators consider the smooth consolidation of such small institutions a priority over creating new opportunities for
16 Act No. 22 of 2007, as amended.
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entrepreneurs in the banking business. Nevertheless, the Fin-Tech will bring many changes to current regulations in the financial sector, including capital markets funding.
It is also noteworthy that the FSA, TSE and JPX have pushed companies to adopt Japan’s Corporate Governance Code (see Section II.v, supra) and that improvement of corporate governance is one of the major challenges that all Japanese companies are facing. In order to enhance corporate governance, the Financial System Council is also discussing conflicts of interest between a bank holding company and its subsidiaries.
The government continues to implement economic reforms and there is no doubt that Japanese capital markets regulations are shifting to the new post-Lehman stage. At the same time, Japan has to cope with the slowdown of the Asian and global economy.
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Chapter 16
KAZAKHSTAN
Shaimerden Chikanayev and Marina Kahiani 1
I INTRODUCTION
i Structure of the lawKazakhstan’s legal system is a civil law system similar to the systems in most other former Soviet jurisdictions. Its laws are contained in the Constitution,2 various codes, laws, edicts, decrees (having the force of law), regulations, instructions, orders and other normative acts of the Republic of Kazakhstan.
The securities market is primarily regulated by the provisions of the Kazakh Civil Code,3 the Securities Law,4 regulations of the National Bank of the Republic of Kazakhstan (NBK) and internal rules of the Kazakhstan Stock Exchange (KASE).5
Unlike the international capital market, the domestic capital market is heavily regulated by the laws of Kazakhstan. The local securities market, in particular, is divided into an organised market (transactions with securities are executed in accordance with the trade organiser’s (i.e., the KASE’s) internal documents) and an unorganised market (transactions with securities are executed without observing the requirements established by the trade organiser’s internal documents).
ii Structure of the courtsKazakhstan’s judicial system comprises three levels of courts:a first instance courts – district courts and courts deemed equivalent thereto;
1 Shaimerden Chikanayev and Marina Kahiani are partners at GRATA Law Firm.2 The Constitution of the Republic of Kazakhstan dated 30 August 1995.3 The Civil Code of the Republic of Kazakhstan (Common Part) dated 27 December 1994.4 The Law of the Republic of Kazakhstan ‘On Securities Market’ dated 2 July 2003 No. 461-II
(the Securities Law).5 Rules of the KASE are not considered as legislation, but they are mandatory for all issuers and
securities that are intended to be included or are included in the official list of the KASE.
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b courts of appellate and cassation instances – oblast courts and courts deemed equivalent thereto; and
c the highest judicial body performing the functions of supervisory instance – the Supreme Court.
Kazakhstan has general and specialised courts, whose competence encompasses review of different categories of cases (economic, administrative, etc.). The review of property and non-property disputes between entrepreneurs and legal entities, as well as corporate disputes, is referred to the competence of specialised inter-district economic courts.
Alternatively, the Law on Arbitration Tribunals of 28 December 2004 and the Law on International Arbitration of 28 December 2004 set out the key provisions relating to the proceedings in arbitration tribunals or courts of arbitration. For instance, certain6 disputes between residents of Kazakhstan can resolved by ‘arbitration tribunals’ in Kazakhstan. These arbitration tribunals are not state courts, but various private arbitration tribunals roughly analogous to private arbitration tribunals in Western countries.
Kazakhstan is a party to the 1958 New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards (the Convention). Accordingly, a foreign arbitral award obtained in a state which is party to that Convention should be recognised and enforced by a state court of Kazakhstan, subject to the terms of the Convention and compliance with local procedural rules.
Foreign court judgments may be recognised and enforced in Kazakhstan only if provided for by an international treaty for the mutual enforcement of court judgments (based on reciprocity). Kazakhstan is not a party to any such treaties with the most Western jurisdictions. Consequently, should a judgment be obtained from a court in such jurisdictions, it is unlikely to be enforceable in Kazakhstan courts.
iii Regulatory authoritiesThe following institutions are involved in regulating and monitoring capital markets activity in Kazakhstan:
NBKThe NBK as a financial mega regulator (in 2011 Kazakhstan consolidated its financial and securities regulators under the auspices of the NBK) is the governmental authority that executes, inter alia, regulation, control and supervision over the financial market and financial and other organisations within its competence. The NBK issues licences for financial activities to market participants and adopts legal acts that regulate capital markets in Kazakhstan. The NBK is currently based in Almaty (the ‘financial centre’ of Kazakhstan). However, pursuant to a recent presidential decree, the NBK shall move to Astana (the capital of Kazakhstan) by 1 January 2017.
KASEThe Kazakhstan Stock Exchange is the only local stock exchange in Kazakhstan and is currently based in Almaty (the KASE will be relocated to Astana after the NBK relocation
6 In particular, Kazakh law prohibits arbitration by arbitral tribunals of disputes involving state interests, state enterprises, natural monopolies, and entities with a dominant market position.
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mentioned above). The KASE acts on the basis of relevant licences issued by the NBK and as of September 2015 has more than 100 companies listed on it. The KASE is a universal financial market, which can be conditionally divided into five major sectors: the foreign currency market, the government securities market, the market of shares and corporate bonds, the repo operations market and the derivatives market. Currently, the KASE comprises 53 members,7 including banks, broker, dealer and investment companies. Foreign legal entities may be recognised as KASE members subject to meeting certain requirements established by the KASE.
AFKThe Financial Institutions’ Association of Kazakhstan (AFK) is a non-governmental organisation whose members include banks, insurance companies, brokers and other professional participants in the securities market, leasing companies, audit organisations, consultancies and scientific-educational organisations. The AFK does not have a regulatory role. However, it does play an active role in the development of the financial market and relevant legislation in Kazakhstan by issuing its recommendations to the NBK and the KASE.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
General regulation of the securities market in KazakhstanUnder Kazakh law, security means ‘a complex of particular records and other symbols certifying proprietary rights’8 and, in particular, the following constitute securities:a shares and bonds;b derivatives (as defined in law);c securities of foreign issuers;d mortgage certificates;e warehouse certificates; andf other types of securities.
Equity securitiesKazakh joint-stock companies can issue shares, convertible securities, corporate bonds and other securities both to the public and as a private placement. Participatory interests in Kazakh limited liability companies are not securities under Kazakh law and may not be issued to the public or traded in the organised market.
Debt securitiesBoth Kazakh joint-stock companies and limited liability companies may issue corporate bonds. The bonds may be secured (by the property of the issuer or bank guarantee) or unsecured. Kazakh law also recognises mortgage bonds and infrastructure bonds.
7 KASE members are professional participants of the securities market entitled to deal with securities and other financial instruments on behalf of themselves and their clients.
8 Article 129 of the Civil Code.
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Mortgage bonds shall be secured by the pledge of rights under a mortgage loan and, in addition, may be secured by the pledge of other high liquid assets established by the NBK (such as money, Kazakh and foreign state securities (if the issuer has a sovereign rating not less than BBB- of Standard & Poor’s or the equivalent of other rating agencies and highly rated Kazakh securities). Money and securities shall not exceed 20 per cent of the total security provided during the circulation of the mortgage bonds.
Infrastructure bonds are issued in concession projects and are secured by the suretyship of the state within the frameworks of the concession agreement on realisation of infrastructure project between the state and the issuer. The value of such suretyship shall be equal to the value of the object transferred to the state. The state suretyship is only provided if the infrastructure bonds are listed on the KASE.9
Kazakhstan depositary receiptsKazakhstan depositary receipts (KDRs) are derivative emission securities confirming the ownership for the certain amount of emission securities issued under foreign law as underlying assets. KDRs can be issued by the Kazakh custodians, the shares of which are included to the supreme category of the official list of the KASE and have risk management and corporate governance systems in place. KDRs may be placed and circulated in the organised market only, and any payments under KDRs shall be made in the local currency – tenge. The issuer of the underlying assets may not be registered in those offshore jurisdictions listed by the NBK, or be an affiliate of an offshore jurisdiction company. The issuer of the underlying assets or the underlying assets themselves shall have a rating of not less than BB- by Standard & Poor’s or Fitch or a Ba3 by Moody’s. The concept of KDRs has been introduced for the purposes of diversification of investment portfolios and risks of the investors and to give them the opportunity to invest in the securities of foreign issuers with decreased transaction costs. To the best of our knowledge, however, no issuance of KDRs has happened in Kazakh securities market thus far.
Islamic securitiesIn 2009, Kazakhstan was the first county in CIS and Central Asia to introduce Islamic banking and Islamic securities. In 2012, JSC ‘Development Bank of Kazakhstan’ issued Islamic securities – sukuk al-murabaha (that was, however, governed by foreign rather than Kazakh law).
Islamic securities issued under Kazakh law are subject to separate regulation in Kazakhstan. In particular, Islamic securities may be paid only in cash. Until an offered Islamic security is paid in full, the issuer may not issue an order to charge it to the acquirer’s personal account.
The key principles of Islamic finance as prescribed by Kazakh laws are as follows: the issuer may not accrue interest as a percentage of the Islamic securities value, or guarantee income on Islamic securities; and the funds received as a result of issue and placement of Islamic securities cannot be used to finance activities related to the production of, or trade in, tobacco, alcohol, weapons, ammunition, or to gambling business, etc.
9 The Law of the Republic of Kazakhstan ‘On Concessions’ dated 7 July 2006 No. 167-III.
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Islamic securities certify the right of their holder for the portion of the material assets and the right to disposal of such assets and the income derived from such assets, services and other assets of the particular projects for financing of which Islamic securities have been issued. The prospectus of Islamic securities shall be approved by the so-called council on principles of Islamic finance that may be engaged by the issuer based on the agreement.
Islamic securities include: shares and units of Islamic investment funds; Islamic lease certificates; Islamic participation certificates; and other securities recognised as Islamic securities by Kazakh law.
Types of investorsThe Securities Law recognises three types of investors: individual, institutional and qualified.
An institutional investor is a legal entity attracting the funds for the purposes of investment. An individual investor is any other investor. Individual investors may invest independently or through professional participants in the securities market, whereas institutional investors may invest only through professional participants in the securities market.10
Qualified investors are legal entities and individuals specified as such by Kazakh law or recognised as such by Kazakh broker-dealers.11
The following persons are specified as qualified investors by law:a financial organisations, which are defined to include Kazakh legal entities with a
licence to conduct a certain type of regulated financial activity, such as:• banks; • pension funds;• insurance companies; and• entities that perform professional activities on the securities market (such as
broker-dealers);b legal entities that under Kazakh law have the right to perform professional
activities on the securities market without a licence (e.g., entities that operate on the basis of a special law, such as the Development Bank of Kazakhstan);
c legal entities that are deemed to be ‘national holding companies’ and ‘national managing holding companies’ (such as, for example, Sovereign Wealth Fund ‘Samruk-Kazyna’ JSC ); and
d international financial institutions.
Certain securities and other financial instruments specified in the Resolution on Qualified Investors12 may be purchased only ‘with funds of ’ the qualified investors. Generally, these are (subject to certain exceptions):
10 Article 5 of the Securities Law.11 Article 5-1 of the Securities Law.12 Resolution of the Management Board of the National Bank of the Republic of Kazakhstan
dated 27 July 2012 No. 228 ‘On Establishing the List of Financial Instruments That are Allowed for Acquiring Only with the Funds of the Qualified Investors’ (the Resolution on Qualified Investors).
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a securities issued by foreign entities that are governed by foreign law and not listed on the KASE;
b shares and units of high-risk investments funds; and c derivative securities and derivative financial instruments, if they are not traded on
either the KASE or Kazakh commodity exchange or foreign stock or commodity exchanges.
Registration of securities issue and transactions with securitiesUnder the Securities Law, local shares and bonds can be placed only after their issuance has been registered with the NBK. The list of securities holders is kept by ‘Integrated Securities Registrar’ JSC, the only organisation in Kazakhstan authorised to maintain the system of securities holders’ registers. All transactions with securities in Kazakhstan are subject to mandatory registration13 by either the ‘Integrated Securities Registrar’ JSC or the nominal holders of securities (e.g., broker-dealers) with the transaction being registered in the system of the Central Depositary JSC.14
Circulation of foreign securities15 in KazakhstanForeign securities may be included on the official list of the KASE, subject to requirements that are similar to those established for local issuers or securities by the NBK Resolution on the Requirements for Issuers and Securities16 and the KASE Listing Rules.17
Foreign securities issued by an issuer who is not a Kazakh resident (as defined under the Securities Law and described below) do not need to obtain permission from the NBK or any other body to be placed among Kazakh investors on the organised or non-organised market, although certain securities may be acquired by qualified investors only, as discussed below.
International securities offeringsThe below statutory requirements are applicable to the issuance and placement of shares and bonds by a Kazakh resident18 in the territory of a foreign state.
13 Article 36 of the Securities Law.14 Article 61.1 of the Securities Law.15 Foreign securities means securities governed by foreign law, see Article 1.7 of the KASE
Listing Rules.16 Resolution of the Management Board of the National Bank of the Republic of Kazakhstan
dated 22 October 2014 No. 189 ‘On Establishing of Requirements for the Issuers and Their Securities to be Admitted (Admitted) to Circulation on the Stock Exchange and Separate Categories of the List of the Stock Exchange’ (the NBK Resolution on the Requirements for Issuers and Securities).
17 Listing Rules approved by the resolution of the KASE Board on 5 November 2009 (the KASE Listing Rules).
18 Importantly, for the purposes of the requirements below, ‘Kazakh resident’ means a legal entity (1) established under Kazakh law; and/or (2) with not less than two-thirds of the assets of located in the territory of Kazakhstan or issued under Kazakh law; and/or (3) with its place of effective management (place of execution of major management and taking of strategic
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Issue of bondsNBK consent
The issuer must obtain the prior written consent of the NBK to issue and place bonds outside Kazakhstan. The NBK has 15 days from the date of application to decide whether to give its consent. The NBK will give its consent if an issuer meets requirements identified below relating to: obtaining the KASE listing; complying with local offer requirements; and complying with additional requirements established by the NBK, including the leverage ratio requirement.
KASE listingBonds must be listed on the KASE in either the ‘debt securities issued by subjects of quasi-state sector’ category or the ‘other debt securities’ category. In addition, if the issuer has previously issued securities (debt or equity), at least one of such securities shall be listed on the KASE in any category. In order to be listed on the KASE, the issuer and its securities shall comply with certain requirements described in the ‘KASE listing’ section, infra.
Local offer requirementThe bonds must be offered for sale on the KASE to investors in Kazakhstan on the same terms as, and simultaneously with, the international offering. If the local demand is less than or equal to 20 per cent of the total size of the offering, then such demand should be satisfied in full. If the local demand exceeds 20 per cent of the total size of the offering, then not less than 20 per cent of the total size of the offering must be allocated to local investors.
Additional NBK requirements for issuance and placement of bonds abroad19
The debt securities may be issued and placed by the Kazakh resident in the territory of the foreign state provided that: there was no default on other securities (except shares) of the issuer; there was no delisting of securities (except shares) of the issuer; and the leverage ratio of the issuer does not exceed two as of the last financial quarter (except banks and organisations performing certain types of banking activity). The leverage ratio is calculated as the ratio of all outstanding liabilities of the issuer to own capital. The ratio is tested at the end of the financial quarter immediately prior to the application for NBK
decisions required for business activity) located in Kazakhstan. This means, effectively, that for the purposes of securities market regulation, even companies incorporated abroad may be recognised as ‘Kazakh residents’ and issuance and placement of their securities will be subject to Kazakh Securities Law requirements. For example, a foreign company that owns the shares of Kazakh company may be considered as ‘Kazakh resident’ if such shares comprise not less than two-thirds of assets of the foreign company.
19 The Resolution of the Management Board of the National Bank of Kazakhstan ‘On Approval of Rules for Issuance and/or Placement of Emission Securities of Organisation – Resident of the Republic of Kazakhstan in the Territory of the Foreign State, Provision of Notification on Issuance of Depositary Receipts or Other Securities, the Underlying Assets of Which Are Emission Securities of Organisations – Residents of Kazakhstan, and on Report on Results of Their Placement’ No. 70 dated 24 February 2012 (the NBK Rules for Issuance and Placement Abroad).
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consent and, therefore, does not include any debt proposed to be incurred in connection with the contemplated bond issue. Where the issuer is a bank it must be in compliance with prudential and other requirements of the NBK.
Foreign listingThe bonds can be listed on the foreign stock exchange only upon receipt of NBK consent provided that the bonds are admitted to listing on the KASE.20
NBK reporting requirementsFollowing the placement of the bonds, the issuer shall provide to the NBK confirmation that the local offer requirement has been satisfied and provide certain information on the local offer. The issuer shall also notify the NBK on the issue of the bonds for currency control purposes.
Local offer prospectus requirementUnder the KASE Listing Rules, the issuer shall prepare the information memorandum in relation to local offer. In practice, a Russian version of international prospectus is generally accepted by the KASE as the information memorandum.
Issue of shares/GDRsThe prior written NBK consent is required to issue and place shares (or derivative securities representing shares of a Kazakh JSC) (the shares) outside Kazakhstan. The NBK will give its consent if an issuer meets requirements identified below relating to: obtaining the KASE listing; complying with local offer requirements; and provided that the prospectuses of the bonds earlier issued by the issuer (if applicable) do not contain covenants that will allow the bondholders claim early repayment or repurchase of the bonds on the ground of change of persons holding 10 or more per cent of the issuer’s shares.21
KASE listingThe shares must be listed on the KASE in either the ‘first’ category or the ‘second’ category.22 In addition, Kazakh law requires that previously issued securities (debt or equity), if any, of the issuer who considers international offering, shall be listed on KASE in any category.
Local offer requirementA Kazakh resident, in the case of placement abroad of the shares, shall mandatorily offer at least 20 per cent of the total issuance (after execution by the existing shareholders of their pre-emptive purchase right) on the KASE. Unlike in case of bonds, the Securities Law does not expressly require the issuer to actually place such 20 per cent on the KASE. Our interpretation of the law suggests, however, that local offer requirement in relation to the shares shall extend to the placement (i.e.. the issuer shall not only offer, but actually
20 Article 22-1.2 of the Securities Law.21 Article 3.2 of the NBK Rules for Issuance and Placement Abroad.22 Article 3.3 of the NBK Rules for Issuance and Placement Abroad.
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place at least 20 per cent of the total issuance of the proposed shares on the KASE, if there is a local demand).
The requirements applicable to foreign listing of the bonds and NBK reporting (described above) apply to the shares as well.
Infrastructure of the securities marketThe following activities in the Kazakh securities market are considered as ‘professional activities in the securities market’ and are subject to NBK licensing:a brokerage;b dealing;c custodial activities;d portfolio management;e transfer agent activity;f pension fund management;g clearing activity in transactions with financial instruments; andh organisation of trade in securities and other financial instruments.
The legal entities performing such activities (the professional participants) shall be Kazakh legal entities and are subject to mandatory requirements such as prudential ratios, requirements as to organisational structure and management, reporting requirements, etc. Money and securities of the professional participants shall be recorded separately from money and securities of their clients in order to protect the clients’ assets in insolvency of a professional participant.
Brokers/dealersBrokers perform transactions with emission securities and other financial instruments on behalf of, in the interests of, and at the expense of their clients (investors or issuers). Dealers perform transactions with emission securities and other financial instruments in their own interests and for their own account over the counter or in the organised market, with direct access thereto.
Under recent 2014 amendments to the Securities Law, brokers, among others, shall receive NBK approval23 for offering to the clients of marginal transactions.24
UnderwritersUnderwriters provide services to the issuer on issuance and placement of emission securities. An underwriter may provide such services by itself or as part of an emission consortium based on the agreement of joint activity.
23 The Resolution of the Management Board of the National Bank of Kazakhstan ‘On Approval of the List (Types) of Financial Products That Require Consent of the National Bank for Offering by Financial Organisations to the Consumers of Financial Services’ dated 22 October 2014 No. 202.
24 Brokerage services that contemplate conclusion of a securities sale and purchase transactions upon instruction from the client using money or securities of the broker lent to its client for the purposes of such transactions.
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Bondholders’ representativeUnder Kazakh law, the bondholders’ representative is an organisation acting in the interests of the bondholders on the basis of an agreement with the issuer in the process of circulation of the bonds in the secondary securities market, interest payment and repayment.25 The functions of the bondholders’ representative include control over the proper use of funds by the issuer if the bonds were issued for a specific purpose, monitoring of the security and financial condition of the issuer, taking measures for the protection of rights and interests of the bondholders (including filing a suit with the court on behalf of 50 per cent or more of the bondholders). The bondholders’ representative reports quarterly to the NBK and the bondholders.
Information on the bondholders’ representative shall be mandatorily included in the bonds prospectus,26 and a copy of the agreement concluded between the bondholders’ representative and the issuer is an integral part of the bonds prospectus.27
The bondholders’ representative shall hold a licence issued by the NBK for custody/broker/dealer activities in the securities market. The bondholders’ representative may not be affiliated with the issuer. The issuer chooses the bondholders’ representative at its own discretion and concludes with the bondholders’ representative a services agreement that is subject to mandatory requirements of Kazakh law.
Integrated Securities RegistrarIn 2013 all Kazakh corporate registrars were abolished and their functions gradually transferred to the legal entity that is currently entitled to act as the one and only registrar in the territory of Kazakhstan – JSC ‘Integrated Securities Registrar’ (the Integrated Registrar). This measure was aimed to improve control over the registration of transactions with securities, ensure secure storage of information and generally aid the development of the securities market in Kazakhstan.
The Integrated Registrar is a professional participant of the securities market that is in charge of maintaining the system of registers of securities holders. The system of registers of shareholders of Kazakh joint-stock companies shall be mandatorily kept by the Integrated Registrar. The Integrated Registrar may also keep the list of participants and their participatory interests in limited liability companies. The Integrated Registrar registers the transactions with emission securities (sale and purchase, pledge, blocking, etc.) that are concluded over the counter and are held by their owners directly, without involvement of a nominal holder.
Central DepositoryThe Central Depositary is the only professional participant of the securities market authorised to perform depositary activity. The Central Depositary performs settlement of the transactions concluded in the organised market and transactions concluded over the counter between its deponents (clients), and it provides nominal holding services for other nominal holders (brokers, custodians, etc.). The deponents (clients) of the Central Depositary are local nominal holders and foreign depositaries and custodians.
25 Article 1-67 of the Securities Law.26 Article 9.1.10 of the Securities Law.27 Article 9.2-2.2 of the Securities Law.
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CustodiansCustodians perform the recording of the financial instruments and the money of their clients, confirm the rights thereto and store documentary financial instruments of their clients. Only commercial banks holding the relevant licence and the NBK may act as custodians in the Kazakh securities market.
Trades organisersTrades organisers are stock exchanges (for the organised trades) and quotation organisations (for over-the-counter trades). Currently, there is only one stock exchange in Kazakhstan – the KASE. The quotation organisation may be established for the exchange of quotations in relation to the securities between its members. Only professional participants may be members of a quotation organisation.
Measures taken by Kazakh regulators as a response to the financial crisisThe most important legislative changes in relation to capital markets have been adopted in Kazakhstan as a response to 2008–2009 financial crisis. In February 2012, the Law on the Minimisation of Risks28 came into effect; it contained certain amendments to various legal acts, mainly aimed at strengthening banking regulation and improving local securities market performance. We describe the latter in more detail below.
Mandatory covenants of a local bonds issuerThe Law on the Minimisation of Risks introduced a list of mandatory negative covenants that all Kazakh issuers have to undertake and comply with until the maturity of the local bonds. Namely, the Kazakh issuer is prohibited from:a disposing of the assets of the issuer for more than 25 per cent of the total assets of
the issuer as of the date of disposal;b defaulting under the obligations, other than bonds, for more than 10 per cent of
the total assets of the issuer as of the date of state registration of the bonds issue;c changing the main types of its activities (and amend its charter to that effect); andd changing its organisational legal form (e.g., from JSC to LLP).29
In case of breach of the above covenants, the issuer shall repay the local bonds and pay accrued interest. The mandatory covenants requirement does not apply to the organisations undergoing the restructuring and banks or organisations performing certain types of banking operations. Other covenants may be established in the local bonds prospectus provided that they are approved by the relevant corporate body of the issuer.30
28 The Law of the Republic of Kazakhstan dated 28 January 2011 No. 524-IV ‘On Amendments and Additions to Certain legislative Acts of the Republic of Kazakhstan on Questions of Regulation of Banking Activity and Financial Organisations in Terms of Risks Minimisation’.
29 Article 15 of the Securities Law.30 Article 50 of Appendix I of the Resolution of the Agency of the Republic of Kazakhstan
for Regulation and Supervision over Financial Market and Financial Organisations dated 30 July 2005 No. 269 ‘On Approval of the Rules of State Registration of Non-State Bonds
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Increase of bondholders’ representative powersTo protect the interests of the bondholders, the Law on the Minimisation of Risks broadened the statutory powers of the bondholders’ representative so it has been empowered with the following additional rights: to control the use of the proceeds by the issuer for a specific purpose; to monitor the financial position of the issuer; and to file a suit with the court on behalf of 50 per cent or more of the bondholders.
Issues to be approved by the bondholders’ meetingDue to amendments to the Securities Law in 2011, the changes in the prospectus of local bonds related to the below issues shall be mandatorily approved by a bondholders’ meeting:31
a providing security for the bonds (in case of secured bonds);b changes in the number of bonds, their type, ways of payment, receipt of income
on the bonds (including nominal value of bonds), tenor or circulation and repayment procedure; and
c changes in the conversion procedure (in case of convertible bonds).
The above changes shall be approved by not less than:a 85 per cent of the total amount of the placed bonds (except the bonds redeemed
by the issuer); orb 75 per cent of the total amount of the bondholders in the case that there are two
bondholders, each holding more than 10 per cent of the issuance.
The above requirements do not apply to financial organisations or to the parent company of a banking conglomerate (non-financial organisation) in case of restructuring of their debt.
Introduction of the above requirements gave corporate issuers the possibility to restructure their bonds subject to approval of 85 per cent of the bondholders (previously bonds restructuring was possible only upon approval of 100 per cent of the bondholders).
Local placement requirementThe Law on the Minimisation of Risks introduced the mandatory 20 per cent local placement requirement in relation to the bonds issued by the ‘Kazakh resident’. As discussed above, in case of bonds placement abroad, Kazakh residents are required not only to offer bonds on the local stock exchange (the KASE), but to actually sell at least 20 per cent of the total issuance on the KASE, if there is demand. This requirement evidently was aimed at the development of the KASE and local securities market generally.
Insider tradingThe Law on Minimisation of Risks has also considerably expanded the list of persons classified as ‘insiders’ for the purposes of the Securities Law. Auditors, brokers,
Issuance and Consideration of the Reports on Results of Placement and Repayment of the Bonds, Cancellation of the Bonds Issuance’.
31 Article 9.4-1 of the Securities Law.
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independent appraisers, stock exchange, state officials of the NBK and any other persons who have access to insider information are now considered insiders.
ii Developments affecting derivatives, securitisations and other structured products
General regulation of derivatives in KazakhstanDefinition of derivatives under Kazakh lawThe Kazakh Civil Code contains the following definition of ‘derivative financial instrument’: ‘[a] contract whose value depends upon the size (including the fluctuation in the size) of an underlying asset of the contract and which envisages the effectuation of settlement under such contract in the future.’32 Swaps, options, forwards and futures are then defined as examples of derivative financial instruments in line with commonly used market definitions and, in particular, with IAS definitions.
Further, the Securities Law contains the definition of ‘derivative securities’: ‘securities certifying rights in relation to the underlying asset of such derivative securities’. It seems that the concept of a ‘derivative security’ is evidence of the general confusion of the legislator in its understanding of the nature of derivatives (since generally the derivatives are not securities). We understand that the definition of ‘derivative securities’ was intended to express a certain type of the ‘derivative,’ as such term is used in the law of Western jurisdictions. From a practical perspective, this distinction has limited impact, as Kazakh law often refers to a ‘derivative security’ or ‘derivative financial instrument’. Thus relevant regulation covers both definitions of derivative financial instruments and derivative securities in one go.
Cherry-pickingIt seems that under current Kazakh law there is apparent risk of cherry-picking as the rehabilitation manager has a right to reject certain contracts deemed burdensome to the insolvent company while affirming contracts beneficial to the insolvent company. Article 8 of the Bankruptcy Law,33 in particular, provides the possibility for a rehabilitation manager to refuse to perform transactions made by a Kazakh counterparty before institution of rehabilitation proceedings, which are not performed by either party, whether in full or in part, if one of the following criteria is met:a the performance of the agreement will result in a loss for a debtor;b the agreement contains onerous terms in comparison with similar and analogous
contracts, which are commonly executed under comparable circumstances;c agreement is a long-term contract (i.e., for more than one year) or is designed for
the results to be obtained by the counterparty in remote future; ord there are reasons to believe that the performance of the transaction will result in
unfavourable consequences for other creditors.
32 Article 128-2 of the Civil Code.33 The Law of the Republic of Kazakhstan ‘On Rehabilitation and Bankruptcy’ No. 176-V
dated 1 March 2014 (the Bankruptcy Law).
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The bankruptcy manager is obliged, based on the decision of the creditors’ committee, to amend, terminate, reject or challenge the contracts concluded prior to initiation of bankruptcy proceedings and to claim to return the property transferred by a debtor prior to initiation of bankruptcy proceedings (Article 8.3 of the Bankruptcy Law).
Close-out nettingKazakh law does not specifically recognise close-out netting and is rather ambiguous on enforceability of any netting arrangements. It is evident, therefore, that without specific guidance under Kazakh law, a Kazakh court might prevent the application of close-out netting in an insolvency proceeding, for example, where local policy interest might be seen as overriding the parties’ choice of law for their contract.
Relevant developments in bankruptcy lawThe Bankruptcy Law introduced in 2014 includes the following important provisions that may further affect derivative transactions.
Automatic early terminationThe Bankruptcy Law now explicitly provides that the initiation of bankruptcy proceedings shall not be a ground for early termination or unilateral refusal to fulfil the contract, and any agreement between the parties on such early termination or unilateral refusal is invalid (see Article 8.1 of the Bankruptcy Law). This is a mandatory provision of Kazakh law and, accordingly, there is a significant risk that an automatic early termination provision in, for example, an ISDA master agreement, will not be recognised in Kazakhstan if the Kazakh counterparty goes bankrupt.
Bankruptcy set-offSet-off is generally not possible upon bankruptcy. The Bankruptcy Law now explicitly provides that the insolvent debtor and its creditors may not set off their claims at their discretion upon initiation of rehabilitation or bankruptcy proceedings (see Article 8.4 of the Bankruptcy Law). Set-off shall be effected, however, by the rehabilitation or bankruptcy manager if such set-off does not breach the priority of other creditors, is direct, mutual, does not involve any other party, and is in relation to monetary claims only.
Limitations for transactions with derivatives in KazakhstanIn 2012, certain amendments have been introduced to Kazakh law in order to minimise the risks in the financial market following the recent global financial crisis. Such amendments affected the possibility of certain local investors to deal with derivatives.
Restrictions to deal with derivatives for Kazakh banksGenerally, the Kazakh banks are allowed to deal with derivatives subject to over-the-counter (OTC) dealing prohibition, underlying asset requirements and bank’s own capital requirement.
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OTC dealing prohibitionKazakh banks are prohibited from dealing with derivatives OTC subject to certain exceptions established by the legislation (i.e., generally derivative transactions shall be concluded by the bank through the stock exchange). The exceptions include low risk transactions, the list of which is established by the NBK Derivatives Regulation.34 For example, a derivative transaction with a non-resident counterparty with a credit rating of not less than BBB- according to the international scale of Standard & Poor’s or by the analogical rating of Moody’s or Fitch may be concluded by the Kazakh bank OTC.
Underlying asset requirementsKazakh banks are prohibited from dealing with derivatives if the underlying asset of the relevant derivative is not permitted by the NBK Derivatives Regulation. The permitted underlying assets include tenge and foreign currency, currency indices, refined previous metals, interest rates, certain securities and indices, credit risk (subject to certain requirements provided by the NBK Derivatives Regulation), certain non-delivery commodities and commodities indices.
Bank’s own capital requirementFrom 1 January 2014 the NBK has introduced a limit on the capacity of a Kazakh bank to trade derivatives. Such trades may not exceed 30 per cent of the bank’s own capital.35 By establishing this limit, the NBK is demonstrating a negative attitude toward Kazakh banks trading excessively with derivatives.
Restrictions on dealing with derivatives for financial institutionsFinancial institutions other than banks are also subject to certain restrictions. For example, insurance companies are allowed to enter derivative transactions only for hedging purposes.
A unified pension fund is allowed to enter into derivative transactions without limitation for the purpose of hedging of investment risks. The amount of the transactions
34 Resolution of the Management Board of the Agency of the Republic of Kazakhstan for Regulation and Supervision of Financial Market and Financial Organisations dated 16 July 2007 No. 210 ‘On Establishment of the List and Order of Acquisition of Base Assets of Derivative Securities and Derivative Financial Instruments with which the Second Tier Banks are Allowed to Perform Broker and/or Dealer Activity in the Securities Market, and Cases of Execution of the Deals with State Securities and Non-state securities in the Secondary Market, Derivative Financial Instruments in the Non-organised Securities Market’ (the NBK Derivatives Regulation).
35 See Article 47 of the Resolution of the Management Board of the Agency for Regulation and Supervision of Financial Market and Financial Organisations dated 30 September 2005 No. 358 ‘On Approval of Instruction on Normative Ratios and Methodology of Calculation of Prudential Requirements for Second Tier Banks’.
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entered into for any other purpose shall not exceed 10 per cent of the total pension assets.36
A voluntary accumulative pension fund shall, generally, conclude transactions with derivatives through the stock exchange; for the purposes of hedging; and the base asset shall be on the list of the assets permitted for the investment of pension or own assets of the pension fund.37
Restrictions to deal with derivatives for non-qualified investorsArticle 2 of the Resolution on Qualified Investors states that certain financial instruments (including derivatives that are not traded in the Kazakh or foreign stock or goods exchange) may be purchased only ‘with the funds of qualified investors’. Our interpretation of the law suggests that this provision means that, generally, only qualified investors may deal with derivatives that are not traded in the Kazakh or foreign stock or goods exchange.
There is, however, an exception to the above rule. If all of the following requirements are met: (1) the underlying assets of the derivative is permitted by the Resolution on Qualified Investors; (2) the transaction is concluded OTC; and (3) one of the conditions established in the Resolution on Qualified Investors is met (e.g., the derivative transaction is entered into with a highly rated counterparty), such derivatives may be purchased with the funds of any legal entity (even a non-qualified investor).38
Securitisation in KazakhstanLocal securitisation transactions in Kazakhstan are regulated by the Law of the Republic of Kazakhstan ‘On Project Finance and Securitisation’ dated 20 February 2006 No. 126.
The Law establishes the legal basis and conditions of project finance and securitisation in Kazakhstan; in particular it introduces the concepts of ‘SPV’, ‘true sale’ and ‘bankruptcy remoteness’. To the best of our knowledge, there have only been foreign law governed cross-border securitisations in Kazakhstan so far, and no Kazakh law governed local securitisation transactions.
iii Cases and dispute settlement
Kazakh law refers to a continental system of law and, accordingly, court precedent is not a source of law and the judges are not obliged to follow previous decisions on similar matters (though they tend to). Kazakhstan court practice is limited generally, and in the sphere of securities market in particular. There is no comprehensive database where one may find all the court decisions on a certain matter. In addition, Kazakhstan’s state bodies and judges are generally unfamiliar with and inexperienced in modern commercial law terminology, concepts and practices. Therefore, it is impossible to predict with
36 Point 11 of Appendix I of the Resolution of the Management Board of the National Bank of the Republic of Kazakhstan dated 6 May 2014 No. 75 ‘On Approval of Investment Declaration of the Unified Pension Fund’.
37 Resolution of the Management Board of the National Bank of the Republic of Kazakhstan dated 27 August 2007 No. 237 ‘On Approval of the Rules of Activity of the Unified Accumulative Pension Fund and/or Voluntary Accumulative Pension Funds’.
38 Article 2 of the Resolution on Qualified Investors.
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any certainty how the rights and obligations of the parties in cross-border financial transactions would be interpreted by judges or arbitrators in Kazakhstan.
iv Relevant tax and insolvency law
Tax lawBonds
InterestUnder Kazakh law, payments of interest on bonds to non-residents of Kazakhstan39 will be subject to 15 per cent withholding tax, unless reduced by up to 10 per cent by an applicable double taxation treaty. Payments of interest to investors registered in countries with a favourable tax regime are subject to 20 per cent withholding tax, unless reduced by an applicable double taxation treaty. The list of countries with favourable tax regimes is established by the Kazakh government and includes, inter alia, the Republic of Cyprus, Hong Kong, the British Virgin Islands, the US state of Delaware, among others.
The withholding tax on the interest would not apply if the bonds are listed on the KASE as at the date of accrual of interest.
GainsThe net gain received by the non-resident seller from the sale of the bonds is subject to 15 per cent withholding tax in Kazakhstan. If such non-resident seller is registered in a country with a favourable tax regime, the net gain is subject to 20 per cent withholding tax. Such withholding tax may be reduced or eliminated under an applicable double taxation treaty.
Any gain derived from the sale of the bonds through open trades on the KASE or a foreign stock exchange is tax-exempt, provided that such bonds are admitted to the official list of such stock exchange at the time of sale.
SharesDividends
Dividends are generally subject to 15 per cent withholding tax, unless reduced by double taxation treaties (5 or 15 per cent depending on the country of residence and satisfaction of certain other conditions). If dividends are paid on the shares held by a resident of a country with a favourable tax regime, such dividends are subject to 20 per cent withholding tax.
The dividends on the shares listed on the KASE at the time the dividends are accrued is exempt from tax. Dividends paid on the shares that are not listed on the KASE will be exempt from tax if the shareholder is not a resident of a country with a favourable tax regime and the shareholder has been holding the shares for more than three years.
39 An individual who is not a resident of Kazakhstan for tax purposes or to a legal entity that is neither established under Kazakh law, nor has its actual governing body (place of actual management), nor maintains a permanent establishment in Kazakhstan or otherwise has no legal taxable presence in Kazakhstan.
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GainsThe net gain received by non-resident of Kazakhstan from the sale of shares is subject to a 15 per cent withholding tax in Kazakhstan, unless such non-resident seller is registered in a country with a favourable tax regime, in which case a 20 per cent withholding tax will apply.
Kazakhstan tax law provides relief from capital gain tax in respect of the shares if the non-resident seller is not a resident of a country with a favourable tax regime and has held the shares for more than three years as at the date of sale. This relief applies if the issuer is not a Kazakh subsoil user and not more than 50 per cent of the issuer’s assets comprise property of Kazakh subsoil users. Further, any income of a non-resident derived from the sale of the shares through open trades on the KASE or a foreign stock exchange is tax-exempt, provided that such shares are admitted to the official list of such stock exchange at the time of sale.40
Stamp dutiesThere is no stamp duty or similar tax payable in Kazakhstan.
Insolvency lawThe Bankruptcy Law provides for the following three insolvency regimes that may be applied to an insolvent debtor: accelerated rehabilitation, rehabilitation and bankruptcy. Importantly, the Bankruptcy Law does not apply to state enterprises and institutions, pension funds, banks and insurance (reinsurance) organisations that are covered by special bankruptcy regimes.
Accelerated rehabilitation and rehabilitation41 are intended to rescue the debtor. A final liquidation (i.e., bankruptcy) guillotines the debtor.
Accelerated rehabilitation can be initiated by the debtor in the court proceeding provided that no rehabilitation or bankruptcy proceeding has been initiated against the debtor and the debtor is insolvent42 or will not be able to meet his or her monetary obligations on the dute date within the next 12 months.
40 Income of a Kazakh resident is tax-exempted only if it is derived from the sale of the shares through open trades on the KASE (i.e., it is not tax-exempted if trade is on a foreign stock exchange), provided that such shares are admitted to the official list of KASE at the time of sale.
41 Both procedures may be applied to commercial entities only.42 The debtor is insolvent if one or more of the following conditions are met: a non-payment under health or life damage obligations, obligations to its employees,
social insurance and pension payments, payments under copyright agreements within three months after they became due for the amount of 100 monthly calculated indexes (approximately US$735);
b non-payment under tax and other budget obligations within four months after they became due for the amount of 150 monthly calculated indexes (approximately US$1,100);
c non-payment by a debtor – legal entity under any other obligations within three months after they became due for the total amount of 1,000 monthly calculated indexes (approximately US$7,340).
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Accelerated rehabilitation is conducted based on a rehabilitation plan that shall be agreed upon by the debtor and its affected43 creditors prior to the initiation of the court proceeding. The interests of other (i.e., not affected by initiation of the accelerated rehabilitation procedure) creditors shall, however, be taken into consideration in the rehabilitation plan. The tenor of accelerated rehabilitation is up to two years and may be extended by an additional six months at the request of the debtor with the consent of the affected creditors.
Upon introduction of accelerated rehabilitation by the court, the following main legal implications arise: a the debtor may not use and realise its property except in the course of regular
commercial operations, if provided by the rehabilitation plan or upon consent of the affected creditors;
b a stay of enforcement of court decisions or arbitration awards issued earlier upon claims of affected creditors;
c the affected creditors cannot file for bankruptcy of the debtor; and d withdrawal of money from the debtor’s account and foreclosure of the debtor’s
property is prohibited.
Payments to the affected creditors are made according to the schedule included in the rehabilitation plan. Payments to any other (i.e., not affected) creditors are made in the course of regular commercial operations of the debtor (i.e., none of the implications discussed above shall be applicable). Any creditor that is not an affected creditor may file an application to the court for the bankruptcy of the debtor.
Rehabilitation may be initiated in the court proceeding by either the debtor itself or its creditors. The debtor may file for rehabilitation if he or she is either insolvent or unable to meet his or her monetary obligations on the due date within the next 12 months. Creditors may file for rehabilitation if the debtor is insolvent.
An insolvent debtor is entitled to apply to the court for the suspension of the bankruptcy proceedings and the introduction of the rehabilitation procedure within 10 days of the date it received a copy of the court ruling on the initiation of bankruptcy proceedings.
A mandatory prerequisite for the rehabilitation is that the debtor must be able to improve his or her financial position. The rehabilitation plan, unlike in accelerated rehabilitation, shall be approved by the creditors within three months from the moment
The monthly calculated index is a coefficient used for calculation of benefits and other social payments and for the application of fines, sanctions, taxes and other payments according to Kazakh legislation. The amount of the monthly calculated index is established annually by the Law of the Republic of Kazakhstan on the Republican Budget. The monthly calculated index of 2015 is equal to 1,982 tenge.
43 Accelerated rehabilitation would not affect all of the creditors of the debtor, but only certain groups of creditors with ‘homogeneous’ claims (e.g., bondholders, lenders under loans, etc.) that the debtor decided to include in the rehabilitation plan. At least 50 per cent plus one vote of total amount of the claims of each of the affected group of creditors with the homogeneous claims is required for due approval of the accelerated rehabilitation.
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of the court ruling on introduction of rehabilitation procedure. The tenor of accelerated rehabilitation shall be indicated in the rehabilitation plan and may be extended by an additional six months at the request of the rehabilitation manager with the consent of the creditors.
Unlike accelerated rehabilitation, within a rehabilitation procedure creditors may decide to deprive existing shareholders and pass management over the debtor to a specially appointed rehabilitation manager.
The legal implications of the introduction of rehabilitation by the court are generally the same as for the accelerated rehabilitation discussed above. The main difference is that all creditors (unlike only affected creditors in accelerated rehabilitation) may make their claims only within rehabilitation proceeding and may not file for bankruptcy.
Bankruptcy may be initiated in the court proceeding by the debtor itself, creditors, the prosecutor, the rehabilitation manager, or if, in the course of rehabilitation, it turns out that rehabilitation is not possible, the state body responsible for tax and other payments to the budget. The tenor of a bankruptcy proceeding shall not exceed nine months and may be extended by an additional three months at the request of the bankruptcy manager with the consent of the creditors’ meeting.
A resolution of the court on the bankruptcy of the debtor results in the following legal implications:a the debtor may not use and realise its property and repay its debt except in the
course of regular commercial operations;b all debt obligations shall be considered as due;c the accrual of fines and interests on all obligations of the debtor is terminated;d all court disputes of a proprietary nature in relation to the debtor are terminated; e all claims may be made against the debtor only in bankruptcy proceeding (except
claims where third persons are acting as guarantors or pledgors);f all arrests and liens on the debtor’s property are eliminated upon application of
administrator; andg any new arrests on the property of the debtor may be imposed only in case of
claims for invalidation of the transaction and reclamation of property from illegal possession of the debtor.
Upon resolution of the court on the bankruptcy of the debtor, the bankruptcy manager realises the debtor’s property through public auction and satisfies the claims of the creditors included on the register of creditors’ claims in the following order of priority:a administrative and court expenses;b claims under health or life damage obligations, obligations to employees, social
insurance and pension payments, payments under copyright agreements;c secured creditors’ claims;d tax and other budget payment claims;e claims of other creditors;f claims for damages and fines; andg distribution of the remainder, if any, to the bankrupt entity’s shareholders.
In 2014 a new mechanism was introduced for the satisfaction of claims of secured creditors whereby the secured creditor may, upon approval of the creditors’ meeting, directly take over the collateral in-kind. Prior to this amendment, the secured creditor
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could not take the collateral in-kind and his or her claims could only have been satisfied upon the sale of the bankrupt debtor’s estate, including the collateral.
v Role of exchanges, central counterparties and rating agencies
KASEAs mentioned above, the KASE is the only stock exchange in Kazakhstan. The securities (including derivative securities) issued under both Kazakh and foreign law may be admitted to the official list of the KASE, subject to the requirements established by the NBK Resolution on the Requirements to Issuers and Securities and the KASE Listing Rules.
The official list of the KASE includes the following sectors (and each sector may include categories):a shares (‘first’ and ‘second’ categories);b debt securities (‘debt securities issued by subjects of the quasi-state sector’ category,
‘other debt securities’ category, ‘buffer’ category);c Islamic securities (‘Islamic lease certificates’ category and ‘Islamic participation
certificates’ category);d investment funds securities;e derivative securities;f securities of international financial organisations; andg state securities.
From 1 January 2015, the new amended version of the NBK Resolution on the Requirements to Issuers and Securities and relevant amendments to the KASE Listing Rules came into force in order to make the requirements of the KASE listing more flexible (especially in relation to bonds) and, accordingly, to attract new issuers to list their securities on the KASE (the KASE 2015 Amendments). The main amendments are listed below.
SharesPrior to the KASE 2015 Amendments, the ‘shares’ sector of the official list of the KASE included three categories, depending on the level of requirements to the issuer. The third category has been abolished, and currently there are only two categories (first category and second category).
Basic Listing RequirementsIn order to be included in the first category, the issuer of the shares shall exist for not less than three years and shall be subject to the following basic listing requirements established by the NBK Resolution on the Requirements to Issuers and Securities (the Basic Listing Requirements):a the issuer’s financial statements are prepared in accordance with IFRS or GAAP
and provided for three financial years for the first category and one financial year for the second category;44
b financial statements are audited by an audit organisation recognised by the KASE;
44 If the audited annual financial statements are more than six months old, interim financial statements (which must either be audited or reviewed by auditors) shall also be provided.
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c audited financial statements shall be provided for the last three years;d the issuer shall adopt a corporate governance code; ande the constitutional documents of the issuer or the prospectus of the issuance do
not restrict for transfer of shares.45
New Listing RequirementsIn addition to the Basic Listing Requirements, the KASE 2015 Amendments require the issuer to comply with the following requirements, applicable only to the first category of shares:46
a prior to inclusion of the shares to the first category, the issuer or selling shareholder must have already completed an IPO;
b the issuer shall have not less than 200 shareholders;c one of the members of the KASE shall apply to be a market maker in relation to
the shares; andd the issuer shall comply with one of the following three packages of requirements:
• the own capital (OC) of the issuer shall not be less than its charter capital and shall not be less than 15 billion tenge and the issuer has attracted not less than 7 billion tenge through the IPO (the IPO total proceeds), 3.5 billion tenge out of which has been attracted in Kazakhstan (the IPO local proceeds) and the issuer received a net profit for one year out of the past two years and not less than 5 per cent of total placed shares of the issuer shall be freely traded on the KASE (the free float47);
• the OC shall not be less than the issuer’s charter capital and not less than 10 billion tenge and the IPO total proceeds shall not be less than 4.5 billion tenge, the IPO local proceeds not less than 2.25 billion tenge and the issuer received a net profit for the past two years and 15 per cent free float; or
• the OC shall not be not less than the issuer’s charter capital and not less than 5 billion tenge and the IPO total proceeds shall not be less than 2.5 billion tenge, IPO local proceeds not less than 1.25 billion tenge and the issuer received net profit for the past three years and 25 per cent free float.
It seems from the requirements packages above that the free float requirement is currently determined by the size of issuer, as opposed to the previous approach where all the issuers irrespective of their size had to maintain an equal level of free float (starting from 10 per cent of the total placed shares during the first six months of the KASE listing up to 25 per cent in two years following the KASE listing). The new differentiated approach to the free float requirement facilitates listing on the KASE of major issuers and, accordingly, makes the KASE listing more attractive.
45 NBK Resolution on the Requirements to Issuers and Securities.46 Article 10.1.8 of the KASE Listing Rules.47 The free float means that at least one placed share from the issuance does not belong a person
(or a group of affiliated persons) who owns all other placed shares of this issuance, and such shares may be purchased on the stock exchange – see Article 1.24 of the KASE Listing Rules.
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As for the second category, the following requirements on the issuer of shares have been abolished: minimal own capital; minimal annual profit; the free float requirement; and the existence of a market maker in relation to the listed shares. Accordingly, in order to be listed in the second category the issuer shall now comply with the Basic Listing Requirements only.
For both categories, the minimal number of shares for the purposes of the KASE listing shall be not less than 100,000 for the common shares and not less than 10,000 for privileged shares.48
BondsIntroduction of a new category
The KASE 2015 Amendments introduced a new category in the ‘debt securities’ sector of the KASE: ‘debt securities issued by subjects of the quasi-state sector’. In order to be included in this new category, the issuer shall be directly or indirectly controlled by the state, the NBK, national holding or national managing holding49 and shall comply with some other simple requirements. Interestingly, unlike for other categories of securities, the requirements to this category does not contain the requirement for the issuer to have been in existence as a company for a certain period (i.e., such securities can be issued by an SPV that has just been established by quasi-state entities and listed on the KASE).
Abolishment of rating requirementPrior to the KASE 2015 Amendments, debt securities could be included in the official list of the KASE only if such securities have been rated by the rating agencies recognised by the KASE. The mandatory rating requirements have been abolished and, accordingly, any non-rated debt securities may now be included in the category ‘other debt securities’, provided that the following requirements are met:a the issuer has been in existence as a company for at least two years;b IFRS or GAAP financial statements;c financial statements are audited by an audit organisation recognised by the KASE; d audited financial statements shall be provided for the last financial year;e the issuer shall adopt a corporate governance code; andf the constitutional documents of the issuer or the prospectus of the issuance does
not contain provisions restricting the transfer of relevant debt securities.
Lightening of the market maker requirementThe market maker requirement that was mandatory for the listing of the debt securities has been amended. Currently, a market maker is required in relation to the debt securities only if there are 10 or more holders of such securities50 (previously a market maker was required in any case except where one person owned all the securities of one issue).
48 Article 10.1.2-1 and 10.1.2-2 of the KASE Listing Rules.49 Article 9 of the NBK Resolution on the Requirements to Issuers and Securities.50 Article 10.1.10 of the KASE Listing Rules.
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Depositary receiptsThe KASE 2015 Amendments clarified that, in case of listing of depositary receipts, listing requirements apply to the underlying shares rather than to depositary receipts and to the issuer of the shares rather than the issuer of depositary receipts (i.e., bank – depositary). In order to be listed on the KASE, the underlying shares and their issuer shall comply with the requirements applicable to the second category of the ‘shares’ sector of the official list of the KASE. If the shares are included in the first category, the mandatory market maker requirement applies to the depositary receipts. The minimum number of depositary receipts to be listed on the KASE is 50,000.51
Simplified listing procedureSecurities issued under foreign law by ‘non-residents’ of Kazakhstan are included on the official list of the KASE through a simplified procedure.52 For application of the simplified procedure, it is required that securities shall be included on the official list of foreign stock exchanges recognised by the KASE and disclose the information on the websites of such stock exchanges in accordance with applicable law and listing rules.
Buffer categoryIn 2009, right after the peak of the financial crisis, the NBK and the KASE decided to introduce a ‘buffer’ category to the ‘debt securities’ sector of the KASE official list. The grounds of inclusion of the securities are default under interest payment obligations or restructuring of the issuer. The purpose of the buffer category is to give the defaulted issuer or issuer under restructuring one year in which to improve its financial position and to avoid delisting of its debt securities for this period. Avoiding delisting protects the interests of the securities holders, since they are able to track the information on a defaulted issuer and market price of its securities through the KASE.
Central counterpartyThe Law on the Minimisation of Risks has introduced the concept of the central counterparty (CCP). In theory, the introduction of the CCP shall lower the market-side risks and the costs of post-trade processing (e.g., as part of the current process of introduction of the T+2 settlement for certain types of shares by the KASE). We note, however, that although the CCP implementation normally requires the establishment of a special reserve and guarantee funds, the Law on the Minimisation of Risks failed to mention this matter.
Rating agenciesIn Kazakhstan, ratings issued by the rating agencies have played a substantial role in securities market regulation. The NBK tends to rely on ratings assigned by international rating agencies, such as Standard & Poor’s, Moody’s, Fitch and others. Ratings assigned by the local rating agencies are not considered by the NBK as reliable. Ratings issued by international rating agencies are used by the NBK for establishment of requirements to
51 Article 8-1 of the KASE Listing Rules.52 Article 17 of the KASE Listing Rules.
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prudential ratios of local financial institutions, investment limitations for certain types of investors (e.g., pension funds are only allowed to invest in debt securities with a credit rating assigned by an international credit rating agency).
It seems that recognition by the NBK of the role of local credit rating agencies for the purposes of regulation will contribute to the development of the local securities market, since the local rating agencies, apparently, have better knowledge of local issuers and environment, the service fees of local rating agencies are substantially lower and affordable for the issuers, and using securities with local credit ratings for the purposes of calculation of the prudential ratios will promote investment in such securities by local investors.
vi Other strategic considerations
In May 2015, the President of Kazakhstan issued a decree providing for the establishment of the Astana International Financial Centre (AIFC),53 with the aim of creating an attractive investment climate, the development of a local capital market and integration with international capital markets, the development of banking, insurance and Islamic finance services, and the improvement of financial and professional services based on international practice. The AIFC is a free financial zone located in the capital of Kazakhstan (Astana) providing to its participants substantial tax advantages, a free visa and foreign employees attraction regime and, most importantly, the unprecedented mechanism of dispute resolution. Civil, financial and administrative disputes between the participants of the AIFC will be resolved by either the AIFC financial court or AIFC international commercial arbitration (if the relevant agreement contains an arbitration clause). Such disputes may be resolved under English law in English by foreign judges. The transactions concluded between the participants of the AIFC will be executed and court proceedings will be held in English. The AIFC will be established based on the experience of the Dubai International Financial Center and relevant Kazakh officials and judges are currently in talks with their Dubai colleagues for this purpose.
III OUTLOOK AND CONCLUSIONS
Although the Kazakhstan securities market is the most developed in Central Asia, its development has been slow compared to the country’s banking sector. It now faces an uphill struggle due to intense competition from foreign capital markets for Kazakhstan’s attractive pipeline of IPOs and Eurobonds.
Kazakhstan’s largest companies typically choose to list their shares or GDRs and issue Eurobonds in London, to gain access to high-quality international investors. Meanwhile, smaller Kazakh companies have been deterred from listing and raising finance locally because of the high listing conditions set by the KASE and lack of liquidity (there is, effectively, only one investor in Kazakhstan, the Unified Pension Fund).54
53 It seems another initiative to have Almaty as a financial centre of Central Asia (RFCA) has been, effectively, abolished by the Kazakhstan authorities.
54 The decision made in 2013 to nationalise 11 private pension funds into the Unified Pension Fund managed by the NBK is hampering capital market development, as evidenced by lower trading volumes in the local securities market.
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Kazakh authorities, evidently, realise the importance of development of the local capital market (e.g., they recently lowered the bar for the companies listing as discussed herein). The ‘Conception of development of financial sector of the Republic of Kazakhstan until 2030’, as approved by the Resolution of the Government of Kazakhstan dated 27 August 2014, envisages that by 2020 Kazakhstan shall, inter alia, double the ratio of capitalisation of its equity market to GDP by way of implementation of the ‘People’s IPO’ programme and IPOs of non-government corporations, and gain recognition of the RFCA (or, in view of recent events, the AIFC) as one of the top 10 financial centres in the whole of Asia. It is hoped the recently announced global privatisation of state-owned companies, including by way of the ‘People’s IPO’ programme, and the impending accession of Kazakhstan to the WTO in 2016, will help in achieving these challenging objectives.
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Chapter 17
KUWAIT
Abdullah Al Kharafi and Abdullah Alharoun1
I INTRODUCTION
A seismic shift in the regulation of capital market activities in Kuwait took place on 21 February 2010, the date the National Assembly (the Kuwaiti parliament) enacted the Capital Markets Authority Law (the CMA Law).2 The CMA Law created a new and independent body, the Capital Markets Authority (CMA), and provided the basis of the CMA’s establishment, aims and goals, in addition to a new legal framework to fill a lacuna in the law.
The CMA Law is considered by prominent experts and practitioners in the legal community as the most complex law promulgated in the recent history of Kuwait, especially concerning its interpretation, application and enforcement. The primitive infrastructure of capital markets’ regulation prior to the CMA,3 coupled with the hasty, unplanned enactment of the law, led to inevitable obstacles preventing a smooth transition into the new regulatory framework and resulted in its rigid impractical application. This was especially the case since the CMA Law interrelates with many public and private laws, such as the Civil Law, the State Audit Bureau Law, the Penal Law, the Commercial Companies Law and the Central Bank’s Law and its respective by-laws and regulations.
On 13 March 2011, the CMA’s Council of Commissioners, in implementation of Article 152 of CMA Law, declared its Resolution No. 2-4 of 2011 to issue executive by-laws and published them in the Official Gazette. The CMA Law and its executive
1 Abdullah Al Kharafi is a senior legal counsel and Abdullah Alharoun is a legal counsel at the International Counsel Bureau.
2 Law No. 7 of 2010 on Establishing a Capital Markets Authority and Regulating Securities Activities.
3 A few fragmented Laws such as Law No. 31 of 1990 and the Kuwait Stock Exchange regulations.
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by-laws have been followed, during the course of the five-year history of the Law, by several resolutions and regulations overseeing securities activities.
On 10 May 2015, Law No. 22 of 2015 (the CMA Law Amendment) was enacted, which contains amendments to 64 articles out of the 165 articles that make up the CMA Law. The CMA Law amendment will be in force on 10 November 2015. It has been announced that new executive by-laws4 will be ready on the November date and will include substantial changes to the regulatory regime and processes within the CMA to bring it in line with IOSCO5 standards.
i Structure of the law
The CMA Law consists of 13 chapters. It starts by outlining the organisational structures and regulatory frameworks of the CMA, securities exchanges and clearing agencies. In Chapters 5 to 9, it regulates organised securities activities, licensing of parties engaging in capital market activities, acquisitions and minority rights, collective investment schemes, and the formalities and procedures related thereto. The CMA Law also provides extensive guidance on the conditions and requirements for disclosures and market announcements. The legislation is concluded by general and transitional rules.6
ii Structure of the courts
The CMA Law provides language for the creation of ‘specialist courts’, which have jurisdiction over all matters subject to the CMA Law. Article 108 stipulates that the court of first instance will be called ‘the Capital Markets Court, the location of which shall be decided by virtue of a decree from the Minister of Justice with the approval of the Supreme Judiciary Council’. The Capital Markets Court comprises two circuits:a a penal circuit that has jurisdiction over all penal cases arising from matters subject
to CMA Law; andb a circuit that oversees civil, commercial and administrative matters subject to the
CMA Law.
In addition, Article 112 of the CMA Law stipulates that penal and non-penal circuits at the Court of Appeal will have jurisdiction over appeals arising from the court of first instance. The highest court of appeal with respect to matters subject to the CMA Law is the Court of Appeal, and the Court of Cassation, normally the highest court of appeal, has no jurisdiction. The purpose of such approach is thought to be to streamline the process and reach final judgments in an expeditious manner.
4 Otherwise known as implementing by-laws.5 The International Organisation of Securities Commission.6 For example, Article 155 of the CMA Law stipulates that ‘the supervisory and control role
referred to under this Law shall be transferred to the CMA within six months from the date of publishing the CMA Law executive by-laws. Thus the supervisory and control role of the Executive Committee of the Kuwait Stock Exchange shall be brought to an end.’
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II THE YEAR IN REVIEW
i Debt and equity offerings
The capital markets in Kuwait have suffered in the past few years from economic stagnation. Equity offerings have been on the shy side, except for a few public shareholding companies in which the state is the main investor.7 However, in what is seen as a new development in the market following years of stagnation, we have witnessed one high-profile private sector IPO in the fast-moving consumer goods sector.8 With respect to debt offerings, Kuwait’s capital markets’ performance is also lacking. Compared to last year, debt offerings originating from Kuwaiti companies have picked up. Kuwait ranked second in the GCC in terms of both value and number of bond issuances totalling up to US$3.2 billion year to date June 2015 and adding up to 16 issuances.9 While there have been no complaints with respect to the CMA’s attitudes and speed with respect to bonds issuance, the same could not be said when it comes to the Islamic debt instruments sukuk. The former correlates to the fact that CMA has yet to streamline the rules for sukuk issuance. Having consulted market experts in Kuwait, we have been informed that they see a continuation of the positive trend in the debt and equity offering with a few IPOs in the pipeline and increased activity in the fixed income sector.10 It is also worth mentioning that it has been announced that the Central Bank of Kuwait has finalised draft legislation regulating sovereign sukuk issuances by the state of Kuwait.
ii New regulations
In addition to the CMA Law Amendment, the CMA has issued a few new regulations and resolutions in late 2014 and throughout 2015. It is clear that the regulators focused their attention this year on topics mainly revolving around the regulation of preferred shares, mergers and acquisitions, and corporate governance.
The CMA Law AmendmentIt appears that the overall aim of amending the CMA Law is to confer a greater rule-making power on the CMA. The CMA Law Amendment delegates several matters that used to be rigidly regulated to the executive by-laws and grants the CMA the authority to make further rules and exceptions. As publicised the CMA’s regulatory reform aims to
7 An example of the aforementioned IPOs is the newly established Kuwait Health Assurance Company, which has a 24 per cent government ownership and capital of 230 million dinars.
8 IPO of Mezzan Holding on 11 June 2015, www.mezzan.com/news/mezzan-holding-debuts-on-the-kuwait-stock-exchange/.
9 Rasameel GCC Market Update (2015) http://rasameel.com/assets/attachments/GCCMarketUpdate-June2015.pdf (among which are US$500 million by Burgan Bank and US$700 million NBK Tier 1 financing).
10 International Counsel Bureau, consultations with market experts, August 2015.
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implement international standards in order to obtain membership in the IOSCO and prompt the Kuwaiti market to be classified as an ‘emerging market’.11
The CMA Law Amendment has amended many of the definitions in the CMA Law and included new ones. For example, one of the most important definitions that were added was the definition of ‘dealing in securities’, which was drafted broadly. Technical errors were also remedied, the definition of ‘private placement’ used to be limited to ‘closed shareholding companies, or in the event of increasing the capital of an existing company’ such limitation has been omitted.
One of the major changes was exempting the rules of transfer of ownership and dealing in securities from the provisions of Articles 508, 992 and 1053 of the Civil Code and Articles 231, 232, 233 and 237 of the Commercial Code.12 These articles regulate the procedures related to public policy with respect to the sale and ownership of encumbered assets. In the fast-moving environment of securities markets the procedures in the aforementioned articles in the Civil and Commercial Codes, which requires, among other things, the involvement of the courts in granting a sale or ownership order, are both outdated and do not provide equitable outcomes.13
The CMA Law Amendment has also served the purpose of bringing the CMA Law in line with the various subsequent legislation that has been enacted by the Kuwaiti parliament such as the new Companies Law in 2012, the Promotion of Investment Law in 2014, and the Public-Private Partnership Law in 2014. Finally, the CMA Law Amendment creates an express tax exemption in Article 150 on proceeds arising from securities, including but not limited to, bonds, sukuk and all other similar securities, regardless of the issuer.
Preferred sharesRegulation No. 6 of 2014This regulation was issued on 16 December 2014, making Kuwait the first GCC country to regulate preferred shares, which are defined as ‘shares that are granted specific privileges with respect to voting, profits, liquidation proceeds or any other rights provided that the shares of the same type shall be equal in terms of the rights, privileges and restrictions.’14 The regulation deals with regulating the issuance, trading, conversion and redemption of preferred shares. In addition, it regulates the rights of the holders of such shares, their ongoing obligations and disclosure requirements. The regulation outlines and defines categories of preferred shares in accordance with the rights attached thereto (i.e., convertible/non-convertible, cumulative/non-cumulative, redeemable/non-redeemable, and participating).
11 CMA’s Chairman of the Board of Commissioner’s Message, https://www.cma.gov.kw/En_Chairman_Message.cms, accessed on 1 September 2015.
12 Law No. 67 of 1980 (as amended) and Law No. 68 of 1980 (as amended).13 The amendment in this regard are modelled on French Law No. 364 of 2006 and Egyptian
Law No. 88 of 2003 (in particular Article 105).14 Reiterating the definition of Preferred Shares in the Companies Law.
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The regulation also lists the minimum eligibility requirements for the issuer and the issue which require, among other things, that all subscribed shares of the issuer are fully paid and that the aggregate of the issued capital and the value of the new issuance does not exceed the authorised share capital of the issuer. Detailed regulations are included with respect to the offering documents and method of offering. As per the regulation, preferred shares may only be offered by way of private placement and to ‘sophisticated investors’. However, the CMA is provided with the authority to regulate the offering of preferred shares by way of public offering through subsequent regulations. Although non-Kuwaiti investors are not precluded from holding ordinary shares, the regulation provides express language in Article 44 granting non-Kuwaiti investors the right to hold preferred shares.
Regulation of mergers and acquisitionsRegulation No. 6 of 2014This regulation was issued on 16 December 2014. It regulates purchase and consolidation merger procedures of companies subject to the CMA Law. The regulation outlines the conflict issues to be considered and the process to be followed by controlling shareholders in the merging companies. It creates an obligation on such controlling shareholder to disclose all necessary information15 to the related parties and, as is customary in such transactions, refrain from voting on the merger decision. The regulation further explains the disclosure method and channels to be followed by the companies concerned and specifies the material information that should be included in the initial merger agreement between the companies which should be submitted to the CMA for its prior approval. To ensure independency and neutral recommendation to proceed with the merger, the regulation creates an obligation on merging companies to appoint an independent financial adviser to provide advice on the merger. In addition, Competition Protection Agency approval has to be obtained, should the merger result in having the merged companies controlling a sector up to a certain percentage within Kuwait. For purchase mergers (as defined in the regulation and the Companies Law), treasury shares may be distributed to the shareholders of the acquired company.
Regulation No. 3 of 2014This regulation was issued on 16 February 2014 to regulate voluntary acquisitions. It is applicable to all offeree companies that are publicly traded on the stock exchange and only applies to unlisted companies in the event of reverse acquisitions.16 In addition, these regulations apply in the event of a party’s intention to acquire a percentage in excess of 30 per cent of the shares of listed companies that are not subject to the mandatory tender offer rules stipulated in Article 74 of the CMA Law. Article 6 of this regulation lists in detail the procedures that should be followed to execute a voluntary acquisition. The former Article creates a 180-day maximum time limit, from the date of disclosing
15 It is currently unclear what the threshold is for necessary information and the CMA has yet to issue a directive on this matter.
16 This area is governed by Articles 289 and 290 of the CMA executive by-laws.
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the ‘preliminary agreement’ (e.g., a memorandum of understanding or a term sheet) during which the offeror must submit the acquisition offer.
The offeror may, however, request an extension to the aforementioned period from the CMA. Should the offeror retract its offer, it will be banned from submitting any acquisition offer in respect of the offeree company for six months. Furthermore, the retracting offeror must be precluded from taking part in any transactions with the offeree (i.e., purchasing the offeree’s stock directly from the market) that would result in triggering a mandatory tender offer. The regulation also provides the procedures that have to be followed to adjust the acquisition offer. For such adjustment to be effected, it must be carried out for the benefit of the shareholders. The CMA has to decide on the updated offer document (i.e, either by approving or refusing it) within 10 working days. If the CMA refrains from issuing its approval, the offeror has to continue on the original basis.17 Finally, the regulation further sets out the procedures the offeror has to undertake in order to retract the acquisition offer. As the case is for the adjustment of an offer, the CMA must approve such retraction. In any event, even if the CMA approves the retraction, the fees paid to carry out the acquisition are non-refundable.
Regulation No. 4 of 2014 This regulation was issued on 27 April 2014. It outlines the rules regarding the allowable annual trading percentages of parties controlling listed companies (otherwise known in the market as ‘Creeping Rules’). It is applicable to persons (natural or otherwise) categorised as ‘controlling parties’ of publicly traded companies. Therefore, it is applicable to persons who either previously executed an acquisition under the CMA rules or persons who obtained ‘control’ prior to the promulgation of the CMA Law. The regulation, therefore, is applicable to all shareholdings exceeding 30 per cent of voting rights in a publicly traded company. The regulation provides a cap on the annually permitted purchase and sale of shares. It sets a 2 per cent limit on the increase or decrease of the annual shareholding of a controlling party in the event such shareholding is in excess of 30 per cent but less than 50 per cent.
In the event, however, that the shareholding constitutes a percentage over 50 per cent, the former allowance is increased to 5 per cent. The regulation introduces a new standardised disclosure form for controlling parties, which should be submitted to the CMA when the allowable annual sale percentage is exceeded or when the shareholding is increased in accordance with the allowable annual increase percentages.18 It is crucial to point out that in the event a controlling party purchases shares in excess of the allowable percentages, it must submit a mandatory tender offer.
Other notable regulations: corporate governanceDespite the recent issue of the Corporate Governance Rules (CGRs) by the CMA by virtue of Resolution No. 25 of 2013 on 27 June 2013 the market did not receive them well. This was due in part to the CMA’s rigid approach in the enforcement efforts of such
17 Article 7(4) of Regulation No. 3 of 2014.18 Form H.A.M/Q.T.A/A.A/4/2014.
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rules. Responding to the market’s backlash, the CMA decided to delay the enforcement of the CGRs from 31 December 2014 to 30 June 2016.19
In keeping with the overall project of reforming the CMA Law and its by-laws and regulations, on 30 June 2015 Resolution No. 25 of 2013 was expressly repealed by the new CGRs issued by Resolution No. 48 of 2015. The new CGRs will be in force on 30 June 2016, and aim, as evident from their scope of application, to adopt (to the extent permitted by the Companies Law and the CMA Law) a ‘comply or explain’ approach.20
iii Cases and dispute settlement
Kuwait does not adhere to the doctrine of binding precedents and the CMA Law, being only five years old, has yet to establish accepted legal principles as is the case with more developed areas of the law. Kuwait does not report the majority of its cases, and there is no publicly available database that one is able to consult in order to ascertain the latest decisions in a given area of the law.21 The Ministry of Justice issues an annual book, however, that contains the statistics from all the circuits of the courts (number of cases, number of decisions, etc.). As previously mentioned, the capital market circuits have only two levels of appeal. In 2014, the Court of Appeal had a total of only 155 cases under review in the capital market circuits, mainly revolving around the issues of the licensing of individuals, companies and funds to practise capital markets activities.22
For the purpose of expeditious resolution and settlements of disputes, the CMA, as mandated by the CMA Law, has also formed the Complaints and Grievances Committee (CGC), which is concerned with receiving, processing complaints against persons subject to the CMA Law and grievances appealing decisions by the CMA. The CGC has the right to decide, reserve the matters it reviews or refer them to a Disciplinary Council within the CMA.23
The Disciplinary Council, which is presided over by a member of the judiciary, has the objective of hearing grievances referred from the CGC and has the power to reverse such decisions, inter alia. Further, the CMA by-laws allow the CMA to amicably settle cases for which the courts have yet to issue a ruling.
19 CMA Press Release on 30 April 2014, www.kuna.net.kw/ArticleDetails.aspx?id=2374934&Language=ar.
20 CMA Resolution No. 48 of 2015 (Scope of Application).21 With the exception of the ‘Collection of legal principles issued by the Court of Cassation’,
published by the Ministry of Justice, which often lags behind by about a year.22 Ministry of Justice (2015). Annual statistical book for the year 2014. Statistical and Research
Department. The State of Kuwait.23 The Disciplinary Council was established pursuant to Article 140 of the CMA Law. In
2013 the CGC had a total of 77 complaints and grievances, 58 of which were concluded in 2013.
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iv Relevant tax and insolvency law
TaxationKuwait has a very simple and clear tax regime, which is not as convoluted as those in many other jurisdictions that are more dependent on the taxpayer for purposes such as funding national programmes and balancing budgets. Kuwait has a tax department at the Ministry of Finance called the Department of Income Tax (DIT), which oversees all matters relating to taxation. As a general rule, taxation in Kuwait is always imposed on net profits (e.g., there is no tax imposed on capital gains or inheritance).
Income taxThe most substantial applicable tax is corporate income tax, regulated by Decree No. 3 of 1955 (as amended by Law No. 2 of 2008) (the Income Tax Law). The Income Tax Law stipulates that all corporate bodies, notwithstanding their form (whether shareholding (KSC) or with limited liability (WLL) compared with other tax laws mentioned below) operating in Kuwait are subject to a 15 per cent net income tax. Income tax is applied on earnings arising from activities such as profits realised on any contract partially or fully executed in Kuwait, commissions from commercial representation or intermediary agreements, provision of services, or commercial or industrial activities. Income tax is calculated after deducting certain expenses such as depreciation, wages, salaries and employees’ end-of-service indemnities, and head office expenses, in accordance with the specifications of the applicable regulations.
Dividends, however, realised as a result of deals in the KSE either directly, indirectly, through portfolios or investment funds are exempt from income tax. Pursuant to the Income Tax by-law, all ministries, authorities, public bodies, companies, societies, individual firms, any natural person and others as specified by the executive rules and regulations may retain 5 per cent of the contract price or each payment made to parties with whom they entered into contracts, agreements or transactions. Non-adherence to such obligation by the parties concerned will subject them to a penalty of bearing the tax not paid by the company subject to the tax law. Finally, although the Income Tax Law does not differentiate between foreign and local persons with regard to its applicability, its current method of enforcement only applies to foreign corporate persons and equities in Kuwaiti companies. The former application does not does not consider GCC nationals foreign.
National labour support taxLaw No. 19 of 2000 concerning the support and encouragement of Kuwaitis to work in the private sector creates a national labour support tax (NLST). The NLST is applied on companies listed in the KSE and imposes a 2.5 per cent tax on their annual net profits. The purpose of this tax is to fund national programmes to support the part of the Kuwaiti workforce that opts to work for the private sector.
Zakat taxThe zakat tax imposes an obligation to pay 1 per cent of the annual net profit generated by any Kuwaiti shareholding company, whether public, closed, listed, non-listed (i.e.,
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WLLs are not subject to zakat tax ).24 The Zakat Tax Law exempts certain shareholding companies from the payment of the zakat tax, such as companies wholly-owned by the state and companies that are subject to the aforementioned Income Tax Law.
Contribution to the Kuwait Foundation for the Advancement of ScienceKuwaiti shareholding companies (closed or publicly traded) contribute 1 per cent of their annual net profits to the Kuwait Foundation for the Advancement of Science (KFAS). This contribution is the main source of funding of the KFAS. It is debatable whether this contribution constitutes a tax duly levied by the state of Kuwait, but in practice most companies comply with such contribution.25
Insolvency lawsThe Kuwait insolvency and bankruptcy regime is mainly housed in Decree Law No. 68 of 1980 issuing the Commercial Code. It deals with the topic as a whole and has a few special rules dealing with the bankruptcy of companies (in Articles 670 to 684); however, given the current commercial climate the law has been subject to severe criticism and is considered to hamper progress as it is still based on the old Egyptian Commercial Code and has not been updated. Therefore, Kuwait had seldom declared bankruptcies with respect to big companies and the law in its current status overlaps very little with capital market activities.
In response, however, to the financial crisis, Kuwait promulgated Decree Law No. 2 of 2009 (the Financial Stability Law). The Financial Stability Law lists the conditions under which, if satisfied, the state will guarantee the decline in the ‘balances of the financial investments portfolio and the balances of the real estate investment portfolio, outstanding in the banks records as at 31 December 2008’.26 The Financial Stability Law has also created a new circuit at the court of appeal to oversee requests for the restructuring of companies and provides language that such requests must be met on an urgent basis. If a company makes a request pursuant to the aforementioned law and the judge who presides over the circuit has registered his approval thereon, the company will be temporarily protected from all judicial and enforcement proceedings in respect of its obligations.
This temporary period is valid until the court approves the restructuring plan of the company or rejects the request for restructuring. Some companies have made requests without merit just to be covered by the legal protection period (which, due to the slow nature of the judiciary, lasted longer than was intended according to the provisions of the law);27 however, very few companies genuinely in this situation have chosen to benefit
24 Law No. 46 of 2006, Concerning Payment of Zakat Tax.25 Kuwait Government Online (2013), ‘Introduction to doing business in Kuwait’, www.e.gov.
kw/sites/kgoenglish/portal/pages/visitors/DoingBusinessInKuwait/GoverningBody_OverView.aspx.
26 Article 4 of Law No. 2 of 2009.27 The court’s Company Restructuring Circuit decided on 24 July 2014 to remove the
Investment Dar (once the country’s flagship financial institution) from the protection given
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from this law as a result of market-specific characteristics and unfavourable local attitudes towards the notion of bankruptcy.
This, in addition to the gap between local and international standards, has prompted the World Bank to take part in a new project launched in March 2014 to work directly with the Kuwaiti government. The project aims to ameliorate the main issues concerning Kuwait’s insolvency law and the frameworks regarding debtors and creditor matters. The result of such collaboration would be to provide support on a new legal framework for enterprise bankruptcy and streamlining judicial approvals for ‘distressed debt workout plans’ in addition to the creation of a specialised commercial court run by a commercially savvy and trained judiciary, which is something the country lacks.28 The initial deliverable of the project has already been announced and the Ministry of Commerce and Industry has published in various newspapers a draft of the new Insolvency Law, which contains provisions on restructuring companies, appointment of receivers and suspension of insolvency procedures.
v Role of exchanges, central counterparties and rating agencies
Prior to the enactment of the CMA Law, the KSE, by virtue of the Amiri Decree issued on 14 August 1983, was created and granted an independent legal personality. It was also entrusted with regulatory securities activities through the KSE Executive Committee (KSEC). The KSEC issued all the rules and regulations regulating securities’ activities, but following the enactment of the CMA Law, the KSE came under the CMA’s oversight, rolling back its authority to regulate.
On 27 April 2014,29 and in accordance with the CMA Law, in an effort to privatise the stock exchange, a public shareholding company, the Stock Exchange Company, was established. Pursuant to Article 33 of the CMA Law, 50 per cent of the Stock Exchange Company’s shares will be offered to the public and the right to purchase the remaining 50 per cent will be divided into 5 per cent segments and offered for sale through an auction in which only listed companies are allowed to participate.
In terms of central counterparties, according to the CMA Law establishing, licensing, managing and operating a clearing house is subject to the CMA’s approval and continuous oversight. The law confers on the CMA substantial authority to regulate licensed clearing houses to the extent that no rule, policy or amendments shall be considered valid unless approved by the CMA.30 The Kuwait Clearing Company is the most prominent clearing house in Kuwait. It provides several services, among which are: clearing and settlement services, derivatives market clearing and risk management,
under the Financial Stability Law soon after its enactment.28 The World Bank (2013). Press release: ‘World Bank supports strengthening of
Kuwait’s insolvency and creditor/debtor regime’, www.worldbank.org/en/news/press-release/2013/06/03/world-bank-supports-strengthening-of-kuwait-insolvency-and-creditor-debtor-regime.
29 The date the notice of the company’s establishment was published in the Official Gazette.30 As per Article 54 of the CMA Law.
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dematerialisation and rematerialisation of securities, pledging and mortgage accounts, trustee services, and subscription management services of IPOs.31
III OUTLOOK AND CONCLUSIONS
The CMA, as a relatively new regulator, has been increasingly busy in the past few years organising its internal structures and phasing in its regulatory activities in order to become effective and to bridge the gap between accepted local practices and international standards. What has been the subject of increasing criticism during its short lifespan has been the attitude it has adopted, characterised by the rigid application of the law and often slow response times when it comes to granting the required licences for persons to carry out their business.32 The responses from the regulators must be better outlined, explained and substantiated.
It has also been recommended that clear and easily accessible databases be created for such decisions. This is consistent with the CMA’s published goals of increasing the awareness of stakeholders from investment and legal perspectives, in addition to the CMA’s mandate of improving the authority’s performance in all its departments and raising its levels of efficiency and effectiveness.33 This must also be done in collaboration with other governmental and private sector entities. It could be argued that the aforementioned rigid approach of the regulator was one of the main drivers of the current outflux of companies from the stock exchange as the market has witnessed noticeable voluntary delistings in the past two years.
On the positive side, many developments have taken place. The most publicised of these has been the steps towards the privatisation of the KSE; on 20 July 2014 a new board was voted in for what became the first private exchange in the history of Kuwait: the Stock Exchange Company KSC.34 Furthermore, the market has announced large-scale acquisitions, and there are positive expectations, despite the geopolitical climate, with respect to the market’s activities in 2016.
It appears that the regulation of capital markets in Kuwait has been the subject of several reforms and the attitude of the regulator in 2014–2015 has shifted to a more collaborative, consultative and transparent approach. The market is patiently awaiting the draft of the new executive by-laws of the CMA Law and the enforcement approach thereof.
31 Kuwait Clearing Co, KSC (2014), services, www.maqasa.com/index_e.htm.32 Some highly publicised investment funds originating from reputable institutions took longer
than two years to be licensed.33 CMA (2014), 2nd Annual Report for the fiscal year (2012–2013), State of Kuwait.34 The KSE is still in operation as an entity and the transfer of responsibilities to the new Stock
Exchange Company has been planned.
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Chapter 18
LUXEMBOURG
Frank Mausen and Henri Wagner1
I INTRODUCTION
Key international players consider Luxembourg, one of the few AAA rated countries, to be among the most attractive business centres in the world. With approximately 145 registered banking institutions, a successful investment fund industry with 3,900 funds managing net assets of approximately €3.5 billion and a dynamic insurance sector, Luxembourg offers a full range of diversified and innovative financial services.
i Legal system
Luxembourg is a parliamentary democracy headed by a constitutional monarch, the Grand Duke. The Grand Duke and the government (headed by the Prime Minister) exercise executive power, and legislative power is vested in the Chamber of Deputies, a unicameral legislature of 60 directly elected members. A second body, the Council of State, composed of 21 ordinary citizens appointed by the Grand Duke, advises the Chamber of Deputies on the drafting of legislation.
The Constitution is the supreme law of Luxembourg.2 Luxembourg’s legal system is based on civil law; a number of laws are based on French or Belgian legislation.
Laws are enacted by the Chamber of Deputies and promulgated by the Grand Duke. The Constitution confers the Grand Duke with the power to adopt the necessary regulations and orders for the implementation of laws. The Grand Duke may, however, not suspend laws or dispense their implementation.
The Grand Duke can also authorise the government to make ministerial regulations in respect of limited technical issues.
1 Frank Mausen and Henri Wagner are partners at Allen & Overy.2 The current Constitution was adopted on 17 October 1868.
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Certain public bodies have the power to adopt special regulations within their field of competence. These bodies must act within the limits that have been previously defined by the legislature. Administrative circulars offer guidance on the interpretation of laws, especially in tax law matters.
Case law is not binding in Luxembourg; the law does not recognise the rule of precedent that applies in Anglo-Saxon legal systems. Judges can, however, refer to case law to found their decisions. In the absence of Luxembourg case law, judges may turn to Belgian, French or even German case law for tax law matters.
ii Judicial system
The Luxembourg judicial system is divided into a judicial branch and an administrative branch. Next to these two branches is the Constitutional Court, the aim of which is to rule by way of judgment on the conformity of particular laws with the Constitution, except for those that sanction international treaties.
The judicial branch is headed by the Supreme Court of Justice, which comprises the Court of Cassation, a Court of Appeal and a department of public prosecution. The Court of Cassation is primarily responsible for hearing cases that seek to overturn or set aside decisions given by the various benches of the Court of Appeal, and judgments by courts of last resort.
The country is divided into two judicial districts and each has a district court. The district court hands down decisions in ordinary law and hears all cases other than those falling expressly within the competence of another jurisdiction. It is competent for appeals against judgments rendered by the justices of the peace operating within the court’s judicial district. The presidents of the district courts, or the magistrates appointed to them, hear interlocutory applications and render interim orders in urgent cases, civil or commercial.
Unless otherwise provided for by law, appeals can be lodged with the Administrative Court against decisions rendered by the Administrative Tribunal, or other administrative jurisdictions that have been granted specific jurisdiction. The Administrative Tribunal decides on appeals in cases of:a incompetence;b acting in excess of authority;c improper exercise of authority;d breaches of the law or of procedures designed to protect private interests;e appeals against administrative decisions in respect of which no other remedy is
available in accordance with laws and regulations; andf appeals against administrative measures having a regulatory character, irrespective
of the authority from which they emanate.
iii Regulatory bodies in the financial sector
The Luxembourg financial sector supervisory authority (CSSF) regulates the financial services sector. It is responsible for investigating possible wrongdoing, and bringing enforcement actions against credit institutions and professionals in the financial sector (PFS) for breaches of applicable law. It has the widest powers to supervise and control Luxembourg credit institutions and the PFS. The CSSF cooperates with foreign
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supervisory authorities on prudential supervision matters. Circulars and regulations issued by the CSSF complete the legislative framework of the Luxembourg financial sector.
The CSSF also supervises the securities markets and receives complaints from investors. It is the Luxembourg competent authority for approving prospectuses that are compliant with Directive 2003/71/EC on prospectuses for securities, as amended by Directive 2010/73/EU (together, the Prospectus Directive), which was implemented in Luxembourg by an Act of 10 July 2005 on prospectuses for securities, as amended (the Prospectus Act). The CSSF furthermore monitors the compliance of issuers with their obligations arising under the Act dated 11 January 2008 on transparency obligations, as amended (the Transparency Act), and the Act dated 9 May 2006 relating to market abuse, as amended (the Market Abuse Act).
Finally, the CSSF participates, at a European Union and international level, in negotiations concerning the financial sector, and coordinates the implementation of governmental initiatives and measures to bring about an orderly expansion of activities of the financial sector.
The Luxembourg central bank (BCL) has a dual role: it is an integral part of the European System of Central Banks and the Eurosystem, on the one hand, and it is the central bank of Luxembourg, on the other. The BCL is responsible for implementing the monetary policy in Luxembourg decided by the Governing Council of the European Central Bank (ECB) and, among others, for payment systems and clearing of settlement systems, cash operations and financial stability.
The Luxembourg Finance Ministry has general competence over the financial services sector (including tax legislation and financial legislation).
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
Public offersAccording to the Prospectus Act, no offer of transferable securities may be made to the public in Luxembourg without the prior publication of a prospectus approved by the CSSF or a competent foreign authority.
Depending on the type of offer and of the securities offered, different regimes under the Prospectus Act apply. Part II of the Prospectus Act implements the provisions of the Prospectus Directive into Luxembourg law, whereas Part III, Chapter 1 of the Prospectus Act applies to simplified prospectuses, which must be published for public offers of securities not covered by Part II. The main difference between the two regimes is that only public offers made under Part II can benefit from the European passport for securities. Part III, Chapter 1 is used for public offers in Luxembourg only.
Generally, a prospectus or a simplified prospectus must contain all the information that enables prospective investors to make an informed assessment of the contemplated investment. The contents and format of a Part II prospectus are determined by the European Commission Regulation 809/2004 dated 29 April 2004, as amended by the Commission Delegated Regulation (EU) 311/2012 and the Commission Delegated Regulation (EU) 486/2012 (together, Regulation 809/2004). Part III prospectuses are
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either drafted on the basis of Regulation 809/2004 or on the basis of the rules and regulations (ROI) of the Luxembourg stock exchange (LxSE).
Any Part II prospectus must be drawn up in English, German, French or Luxembourgish (multi-language prospectuses are also generally accepted). The language of a document incorporated by reference does not need to be the same as that of the prospectus (the person applying for approval to ‘passport’ the prospectus must, however, ensure compliance with the language regime of the host Member State) provided that the language of the document incorporated by reference is one of the four languages accepted by the Prospectus Act, and that the readability of the prospectus is not compromised.
Part II of the Prospectus Act provides for exemptions from the obligation to publish a prospectus for certain offers.3 The obligation to publish a prospectus does not apply to offers to the public of certain types of securities (such as, under certain conditions, securities offered or allotted (or to be allotted) to existing or former directors or employees by their employer whose securities are already admitted to trading on a regulated market or by an affiliated undertaking).
On 6 July 2012, the CSSF published Circular Letter 12/539 outlining changes in the technical procedures regarding submissions of documents to the CSSF.4
ListingsThe admission to trading of securities requires the prior publication of a prospectus in accordance with the Prospectus Act. The regime applicable for admissions to trading varies, to a great extent, according to the market on which the admission to trading is sought. Issuers can either request an admission to trading on the regulated market (within the meaning of Directive 2004/39/EC on markets in financial instruments (MiFID)) of the LxSE or the Euro MTF market. Depending on the type of securities for which an admission to trading on the regulated market is sought, Part II or Part III, Chapter 2 of the Prospectus Act is applicable. As has been seen, only prospectuses approved under Part II can benefit from the European passport. The competent authority for the approval of a Part II listing prospectus is the CSSF, whereas the LxSE governs the approval of simplified prospectuses under Part III, Chapter 2 of the Prospectus Act.
The Euro MTF market is the LxSE’s alternative market. It is not considered as a regulated market in the sense of the MiFID. For admissions to trading on the Euro MTF market, Part IV of the Prospectus Act applies and essentially refers to the ROI as regards the relevant provisions for the content and format of the prospectus to be produced.
3 For instance, offers addressed solely to qualified investors, offers of securities addressed to fewer than 150 natural or legal persons other than qualified investors per Member State, offers of securities addressed to investors who acquire securities for a total consideration of at least €100,000 per investor, and offers of securities the denomination per unit of which amounts to at least €100,000.
4 Submissions of approvals must now be filed in PDF format via email at [email protected]. Other filings will need to be made at [email protected] and documents to be communicated must be sent to [email protected]. Finally, queries on the Prospectus Act should be made to [email protected].
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A prospectus that is drafted in accordance with Regulation 809/2004, however, is also acceptable for a Euro MTF listing prospectus. Euro MTF prospectuses are approved by the LxSE. The Euro MTF market is a trading platform (as defined in the MiFID) and not just a listing place. The main advantage for an issuer to seek admission to trading for its securities on the Euro MTF market is that the stringent disclosure, transparency and reporting obligations under the Transparency Act do not apply. The Euro MTF market is eligible for the Eurosystem operation (ECB) and eligible for investments made by Luxembourg investment funds (UCITS). On 3 September 2015, 9,172 securities were admitted to trading on the Euro MTF market while 29,238 securities were admitted to trading on the regulated market of the LxSE.
Dematerialised securitiesThe Luxembourg Act dated 6 April 2013 on dematerialised securities (the Dematerialisation Act) has modernised Luxembourg securities law by introducing a complete legal framework for dematerialised securities to keep pace with market developments.
The said Act draws on the French, Swiss and Belgian regimes. However, in contrast to these regimes, the dematerialised form of securities will exist in addition to the traditional bearer and registered forms of securities. Dematerialised securities will thus constitute a third type of securities, and an issuer will be free to choose from the three.
The Dematerialisation Act lays down the legal framework for the dematerialisation of securities, which are either equity or debt securities issued by Luxembourg joint-stock companies or common funds or debt securities issued under Luxembourg law by foreign issuer. The Dematerialisation Act does not provide for compulsory dematerialisation but for compulsory conversion if an issuer so decides. Dematerialisation will be achieved by the registration of the securities in an account held by a single body (a liquidation body or a central account keeper).
The Dematerialisation Act is at the forefront in the field of dematerialisation as it has closely aligned the Luxembourg regime with the Unidroit Convention on substantive rules for intermediated securities dated 9 October 2009, as well as, to a certain extent, the works of the European Commission in relation to the future securities law directive.
The new Luxembourg framework on dematerialisation offers greater flexibility and choice for issuers and market participants, increases the speed of transfers by eliminating operational complexities and the risks inherent in the handling of physical securities, and reduces settlement and custody costs.
Immobilisation of bearer shares and unitsThe Luxembourg Act on the Immobilisation of Bearer Shares and Units (the 2014 Act) came into force on 18 August 2014. The 2014 Act purports to adapt Luxembourg legislation to the recommendations of the Financial Action Task Force and the Global Forum on Transparency and Exchange of Information for Tax Purposes (the Global Forum) in terms of identification of holders of bearer shares and units. At any time, the availability of information regarding the identity of bearer shareholders or unit holders must be guaranteed still while preserving the confidentiality of such information towards third parties and other shareholders or unit holders. The new regime applies to bearer
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shares and units, irrespective of whether they are listed, issued by Luxembourg companies or contractual funds. Bearer shares and units must be deposited with a depositary established in Luxembourg that is subject to anti-money laundering requirements. A transitional period of six months is provided for bearer shares and units that were issued prior to the entry into force of the 2014 Act. Depositaries and directors and managers of companies and management companies of contractual funds who fail to comply with the new requirements may incur civil or criminal sanctions. The 2014 Act also applies to companies that have issued registered shares where the share register is not held at their registered office or where otherwise the share register does not comply with the requirements of the Luxembourg act dated 10 August 1915 on Commercial Companies, as amended. Criminal sanctions will be imposed in the event of a breach of the relevant legal provisions applying to share registers.
Market Abuse ActThe Market Abuse Act (which implemented the Market Abuse Directive 2003/6/EC (MAD), dated 28 January 2003 on insider dealing and market manipulation (market abuse) into Luxembourg law) prohibits any person who possesses inside information (be it a primary or a secondary insider) from using that information by acquiring or disposing of, or trying to acquire or dispose of, for his or her own account or for the account of a third party, either directly or indirectly, financial instruments to which that information relates. The Market Abuse Act further requires issuers whose securities are admitted to trading on a regulated market (as defined in the Market Abuse Act) to make public inside information that directly relates to them. Inside information means information of a precise nature that has not been made public, which relates, directly or indirectly, to financial instruments or their issuers and which, if it were made public, would be likely to have a significant impact on the price of those financial instruments.
Information is likely to have a significant effect on price if it is information of a kind that a reasonable investor would be likely to use as part of the basis of his or her investment decisions. The ‘significant impact on the price’ test needs to be made on an ex ante basis and is a ‘likely’ test. The mere possibility that a piece of information will have a significant impact on the price is not enough to trigger the disclosure requirement. It is generally held that information will not be deemed inside information if it is not commercially significant. Inside information given to a specific third party need not be disclosed to the public where there is a duty of confidentiality between the issuer and that third party (imposed by law, regulation, statute or contract).
The protection of investors requires public disclosure of inside information (unless the issuer is entitled to delay the disclosure of inside information) to be as fast and as synchronised as possible between all investors. Inside information (which must be in the French, English or German language) must be notified through mechanisms that allow reasonably efficient broadcasting of such information to the public. The Market Abuse Act does not provide a definitive set of mechanisms and means of publication to be used (these are described in the CSSF Circular 06/257 and include newspapers with nationwide distribution in Luxembourg, the website of the operators of the relevant regulated market and specialised agencies, like Bloomberg and Reuters). In addition, issuers are required under the Market Abuse Act to post all published inside information on their respective websites for a period of three months.
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Besides the prohibitions on insider dealing, the Market Abuse Act also incriminates market manipulation both on regulated markets and on multilateral trading systems (as defined in the MiFID).
It is to be noted that the Market Abuse Directive will be repealed and replaced, with effect from 3 July 2016, by Regulation (EU) No. 596/2014 on market abuse, which is complemented by Directive 2014/57/EU on criminal sanctions for market abuse (CSMAD). The CSMAD must be transposed into national law by participating Member States by 3 July 2016. At the time of writing, Luxembourg has not yet implemented the CSMAD and no bill has been published.
Transparency ActThe Transparency Act (which implemented the European Directive 2004/109/EC dated 15 December 2004, as amended by Directive 2013/50/EU, on the harmonisation of transparency requirements into Luxembourg law) applies to issuers for which Luxembourg is the home Member State and whose securities are admitted to trading on a regulated market (thereby excluding the Euro MTF market).
Issuers falling under the scope of the Transparency Act are mainly obliged to publish annual financial reports, half-yearly financial reports and interim management statements (unless the issuer publishes quarterly financial reports, in which case it is not required to prepare these interim management statements). The Transparency Act 2008 also complements the Market Abuse Act 2006 by defining the methods of disclosure of Inside Information which falls within the definition of Regulated Information.
The above publication requirements do not apply to an issuer that issues exclusively debt securities admitted to trading on a regulated market, the denomination per unit of which is at least €100,000 (or its equivalent in another currency).
The Transparency Act distinguishes between regulated information and unregulated information. Issuers of securities admitted to trading on a regulated market are required to disclose, store and file regulated information (such term being defined in CSSF Circular Letter 08/337). In other words, an issuer is required to publish regulated information, store the regulated information with the officially appointed mechanism (OAM) for the central storage of regulated information (in Luxembourg, the LxSE has been appointed as OAM) and file the regulated information with the CSSF.
Article 15 of the Transparency Act provides for ongoing disclosure obligations for issuers, which must make public ‘without delay new loan issues and in particular any guarantee or security in respect thereof ’. The potential scope of this provision is very broad. With a view to clarifying these disclosure obligations, the CSSF has confirmed that the expression ‘new loan issues’ only applies to issues of new securities admitted to trading on a regulated market. An issue of new debt securities that is, for instance, admitted to trading on the Euro MTF market of the LxSE, an unlisted private placement or a new borrowing made by the issuer (whatever the overall amount) would not be caught by Article 15, Paragraph 3. The CSSF has also taken the view that the obligation to disclose guarantees and security relating to issues is satisfied if the issuer discloses the fact that such a guarantee or security exists.
An area of general concern was the timing of the disclosure obligations and the interpretation of the concept of ‘without delay’. Bulge bracket investment banks issue new debt securities under large issue programmes almost on a daily basis and the requirement
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of Article 15, Paragraph 3, if applied literally, would have meant that a disclosure needed to be made for each issue. The CSSF considers that issuers that admit new securities to trading on a regulated market (and that have immediately made the relevant disclosure in connection therewith) do comply with the Transparency Act requirements by filing the Article 15, Paragraph 3 information with the CSSF and the OAM once a week, provided, however, that the amount of each new issue of securities is not significant compared to the existing indebtedness.
Article 17 of the Transparency Act sets out additional ongoing disclosure requirements relating to general meetings and the exercise of voting rights that are applicable to an issuer of debt securities, and that aim at ensuring equal treatment for all holders of debt securities that are in the same position.
Equal treatment is one of the two key legal aspects to be assessed by an issuer that intends to buy back its debt securities. Abiding by the provisions on market abuse is the second.
Historically, the CSSF favoured an extensive interpretation of the principle of equal treatment. By reference to the very wording of the relevant legal provision (that is, equal treatment must be ensured ‘in respect of all the rights attaching to those debt securities’), the CSSF considered that the right of a holder of debt securities to participate in an offer by, or on behalf of, the issuer to buy back the debt securities is, in principle, a ‘right attaching to’ the debt securities.
The CSSF now adopts a narrower reading of the notion of equal treatment to bring it in line with the practice applicable on other relevant markets. In short, the CSSF considers that the words ‘rights attaching to’ debt securities do not include the right to receive an offer to buy the securities made by or on behalf of the issuer. Thus, an offer can lawfully be made to some but not all holders of a series of debt securities and the issuer may propose different terms to different investors. This possibility is also of importance for exchange offers, to which the CSSF’s position also applies.
Directive 2013/50/EU of the European Parliament and of the Council of 22 October 2013 is in the process of being transposed into Luxembourg law. A bill in this respect has been filed on 17 August 2015 with the Luxembourg parliament (see Section II.vii, infra).
ii Developments affecting derivatives, securitisations and other structured products
Short sellingRegulation (EU) No. 236/2012 of the European Parliament and of the Council of 14 March 2012 on short selling and certain aspects of credit default swaps (the Short Selling Regulation) is directly applicable in the Member States of the EEA (including Luxembourg). The Short Selling Regulation lays down a common regulatory framework for all EEA Member States with regard to the requirements relating to short selling and credit default swaps. In Luxembourg, the Short Selling Regulation is complemented by the Luxembourg Act of 12 July 2013 relating to short selling of financial instruments and implementing the Short Selling Regulation (the Short Selling Act), as well as the CSSF Circular 12/548, as amended by the CSSF Circular 13/565 (CSSF Circular 12/548). The Short Selling Regulation imposes (among others) obligations on natural or
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legal persons to notify to the relevant competent authority (that is, in Luxembourg, the CSSF) and, as applicable, disclose to the public significant net short positions in relation to the issued share capital of companies that have shares admitted to trading on a trading venue, and in relation to issued sovereign debt and uncovered positions in sovereign credit default swaps.
The CSSF has developed a web-based platform5 for the notifications and disclosures of net short or uncovered positions covered by the Short Selling Regulation. Exemptions for market making activities and primary market operations, as permitted under the Short Selling Regulation, can be applied for by sending a notification of intent form (set out in the CSSF Circular 12/548) to the CSSF by post or by email.6
The Short Selling Act also clarifies and extends the powers of the CSSF over, and with respect to, natural and legal persons that are subject to the Short Selling Regulation but that are not otherwise subject to the prudential supervision of the CSSF. In particular, the Short Selling Act provides to the CSSF:a on-site inspection powers (subject to certain conditions);b the power to obtain information and documents necessary for the discovery of
truth in relation to acts prohibited by the Short Selling Regulation;c the power to impose sanctions, including administrative fines up to €1.5 million.
If, however, the relevant person has drawn from the offence committed a pecuniary benefit (whether direct or indirect), the administrative fine may not be less than the amount of such benefit but not more than five times such amount; and
d the power to make public any sanction imposed by the CSSF (except where such disclosure would seriously jeopardise the financial markets).
Security interestsThe Luxembourg Act dated 5 August 2005 on financial collateral arrangements, as amended (Collateral Act 2005), provides for an attractive legal framework for security interests, liberalised rules for creating and enforcing financial collateral arrangements, and protection from insolvency rules. It applies to any financial collateral arrangements and covers financial instruments in the widest sense as well as cash claims and receivables.
The Collateral Act 2005 also provides for transfers of title by way of security and recognises the right of the pledgee to re-hypothecate pledged assets. It enables the pledgee to use and dispose of the pledged collateral. Contractual arrangements allowing for substitution and margin calls are expressly recognised by the Collateral Act 2005, and are protected in insolvency proceedings in which security interests granted during the pre-bankruptcy suspect period can be challenged.
Finally, under the Collateral Act 2005, financial collateral arrangements are valid and enforceable even if entered into during the pre-bankruptcy suspect period.
The Collateral Act 2005, which has been recently amended with a view to enhancing the attractiveness of Luxembourg as an international finance centre, confirms that the insolvency safe-harbour provisions also apply to foreign law-governed collateral
5 Which may be accessed at http://shortselling.cssf.lu.6 [email protected].
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arrangements entered into by a Luxembourg party, which are similar (but not necessarily identical) to a Luxembourg financial collateral arrangement. Furthermore, receivables pledges are validly created among the contracting parties and binding against third parties as from the date of entering into the pledge agreement. The Collateral Act 2005 also modernises the appropriation mechanism by allowing the collateral taker to appropriate the pledged assets (at a price determined prior to or after the appropriation of the asset) and to direct a third party to proceed with the appropriation in lieu of the collateral taker.
NettingAccording to the Collateral Act 2005, set-off between assets (financial instruments and cash claims) operated in the event of insolvency is valid and binding against third parties, administrators, insolvency receivers and liquidators, or other similar organs, irrespective of the maturity date, the subject matter or the currency of the assets, provided that set-off is made in respect of transactions that are covered by bilateral or multilateral set-off provisions between two or more parties.
Furthermore, termination clauses, clauses establishing connection between assets, close-out netting provisions and all other clauses stipulated to allow for set-off are valid and binding against third parties, administrators, insolvency receivers and liquidators, or other similar organs, and are effective notwithstanding:a the commencement or continuation of reorganisation measures or liquidation
proceedings, irrespective of the time at which such clauses (including set-off clauses) have been agreed upon or enforced; and
b any civil, criminal or judicial attachment or criminal confiscation, as well as purported assignment or other disposition of, or in respect of, such rights.
Set-off made by reason of enforcement or conservatory measures or proceedings, including one of the measures and proceedings set out in (a) and (b) above, is deemed to have occurred before any such measure or proceeding applies.
With the exception of provisions on over-indebtedness, Luxembourg law provisions relating to bankruptcy, and Luxembourg and foreign provisions relating to reorganisation measures, liquidation proceedings, attachments, other situations of competition between creditors or other measures or proceedings set out in (a) and (b) above, are not applicable to set-off contracts and do not affect the enforcement of such contracts.
High-yield bondsLuxembourg has seen, over the past couple of years, a strong increase in high-yield bonds issued by Luxembourg finance vehicles and generally admitted to trading on the LxSE. For structuring reasons, it is often not the parent entity of a group that issues the high-yield bonds but a dedicated Luxembourg special purpose finance vehicle that is a direct or indirect subsidiary of the parent entity. To strengthen the credit rating of the high-yield bonds, the issue is usually guaranteed by the parent and all or some of its subsidiaries.
Under applicable Luxembourg law, a guarantor needs to be described as if it were the issuer of the guaranteed bonds. This implies that detailed financial information
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needs to be given in respect of each guarantor; however, the guaranteeing subsidiaries may be located in jurisdictions where there is no requirement, for instance, to produce annual accounts, or where the accounts are not prepared in English, French or German. Providing this information in respect of all guaranteeing subsidiaries in an acceptable form may be burdensome and costly. Following requests from the industry, the CSSF accepts that the individual accounts of the guaranteeing subsidiaries are replaced by the consolidated financial statements of the group (to which the guaranteeing subsidiaries belong), provided that:a the guarantees concerned are unconditional and irrevocable (without prejudice to
legal provisions applicable in the jurisdictions of the guaranteeing subsidiaries);b the guaranteeing subsidiaries represent at least 75 per cent, but not more than
100 per cent, of the group’s net assets or of the group’s earnings before the deduction of interest, tax and amortisation expenses; and
c the prospectus includes in the risk factor section a brief description of the reasons explaining the omission of separate financial information for the guaranteeing subsidiaries.
The LxSE generally follows the CSSF approach when approving prospectuses for high-yield bonds but tends to apply a more flexible approach regarding the above thresholds provided that the interests of the investors are, in the opinion of the LxSE, adequately protected.
Capital adequacy requirementsThe CSSF is responsible for the supervision of capital requirements that are applicable to credit institutions and the PFS. To date, the relevant capital requirement directives (CRDs) have been implemented by the CSSF by way of CSSF regulations or circulars. The cornerstone circulars until 1 January 2014 were CSSF Circular 06/273, as amended (applicable to Luxembourg credit institutions and Luxembourg branches of non-EU institutions), and CSSF Circular 07/290, as amended (applicable, among others, to Luxembourg investment firms and Luxembourg branches of non-EU investment firms). Since 1 January 2014, Regulation (EU) No. 575/2013 of the European Parliament and the Council dated 26 June 2013 on prudential requirements for credit institutions and investment firms and amending Regulation (EU) No. 648/2012 (CRR), with its implementing and delegated Commission regulations is directly applicable in all EU Member States.7 In the event of conflict between the provisions of the CRR and the provisions of the national legislation, the provisions of the CRR prevail. CSSF Circular 07/290 on the definition of capital ratios applicable to investment firms and management companies is currently being updated. CSSF Regulation No. 14-01 on the implementation of certain discretions contained in Regulation (EU) No. 575/2013 deals with the discretions left under the CRR to the national legislation. In addition, CSSF Circular 15/618 implements the EBA Guidelines on materiality, proprietary and
7 The CRR is almost binding in its entirety with the exception of Article 413, paragraph 1, which shall apply from 1 January 2016.
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confidentiality and on disclosure frequency under Article 432 paragraph 1, Article 432 paragraph 2 and Article 433 of the CRR, respectively.
The CRR is supplemented by Directive 2013/36/EU of the European Parliament and of the Council dated 26 June 2013 concerning the access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms, amending Directive 2002/87/EC and repealing Directives 2006/48/EC and 2006/49/EC (the CRD IV Directive, and together with the CRR, the CRD IV Package) and its implementing and delegated Commission Regulations. Clarifications for investment firms in the framework of the transposition into Luxembourg law of the CRD IV and CRR were included in CSSF Circular 15/606. The CRD IV Directive has been transposed into Luxembourg law mainly by the Luxembourg Act dated 23 July 2015 (amending the Banking Act 1993). The CSSF Regulations No. 15-01 and No. 15-02 dated 14 August 2015 dealing with the supervisory review and evaluation process applicable to CRR institutions and the calculation of institution-specific countercyclical capital buffer rates, respectively complement the relevant provisions in the Banking Act 1993.
The European Market Infrastructure Regulation (EMIR)In Luxembourg, derivative contracts are regulated under Regulation (EU) No. 648/2012 of the European Parliament and of the Council of 4 July 2012 on OTC derivatives, central counterparties and trade repositories (EMIR) and its three implementing and eleven delegated Commission regulations, which are legally binding and directly applicable in all Member States. In Luxembourg, EMIR is further complemented by the CSSF Circular 13/557 of 23 January 2013, which merely clarifies certain provisions of EMIR and the CSSF Circular 15/615 clarifying the MiFID definitions of ‘commodity derivatives’ used in EMIR. The purpose of EMIR is to introduce new requirements to improve transparency and reduce the risks associated with the derivatives market. As such, EMIR applies to all financial counterparties (FCs) and non-financial counterparties (NFCs) established in the European Union that enter into derivative contracts. It applies indirectly to non-European counterparties trading with European counterparties. All FCs, and NFCs above a certain clearing threshold have to clear all OTC derivative contracts with a central counterparty (CCP) authorised or recognised under EMIR pertaining to a class of OTC derivatives that has been declared subject to the clearing obligation by the European Commission. Contracts not cleared by a CCP are subject to operational risk management requirements and bilateral collateral requirements. EMIR establishes common organisational, conduct of business and prudential standards for central counterparties as well as organisational and conduct of business standards for trade repositories. EMIR also requires all FCs and NFCs (including those below the clearing threshold) to report details of their derivative contracts, whether traded OTC or not, to a trade repository.
Bill No. 6846 transposing, inter alia, EMIR has been submitted to the Luxembourg parliament on 5 August 2015 (see Section II.vii, infra).
iii Cases and dispute settlement
In a case where the CSSF refused to approve the appointment of an individual as a bank manager, who subsequently claimed damages from the CSSF on the basis of the CSSF’s
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wrongdoing, the Constitutional Court held in a judgment dated 1 April 2011 that the statutory in tort liability regime applicable to the CSSF, which presupposes a gross negligence by the CSSF and deviates from the ordinary civil liability, which allows damages to be sought for wrongdoing, is not contrary to the constitutional principle of equality before the law. Therefore, a plaintiff must establish that the damage that he or she has suffered is caused by the CSSF’s gross negligence to seek the CSSF’s liability and to claim damages.
Luxembourg courts consistently confirm the efficiency of Luxembourg financial collateral arrangements established by the Collateral Act 2005. For instance, it was held that (1) a (Luxembourg) criminal attachment over pledged assets does not prevent the effectiveness of a Luxembourg law governed pledge subject to the Collateral Act 2005 and its enforcement by the pledgee, (2) courts are not permitted to impose provisional measures that interfere with the enforcement of financial collateral arrangements, and (3) a pledge over shares in a Luxembourg bank account is enforceable, despite concurrent and inconsistent Spanish court proceedings that purported to suspend the pledge.
iv Relevant tax and insolvency law
TaxationLuxembourg companies are subject to corporation taxes at a combined tax rate (including corporate income tax, municipal business tax and the solidarity surcharge) of 29.22 per cent in the municipality of Luxembourg for the fiscal year ending 31 December 2015. They are assessed on the basis of their worldwide profits, after deduction of allowable expenses and charges, determined in accordance with Luxembourg general accounting standards (subject to certain fiscal adjustments and to the provisions of applicable tax treaties). Ordinary Luxembourg companies (LuxCos) are subject to a wealth tax at a rate of 0.5 per cent, assessed on the estimated realisation value of their assets on the wealth tax assessment date, after deduction of any business-related debts. Luxembourg companies that are subject to the Luxembourg act dated 22 March 2004 on securitisation, as amended (the Securitisation Act 2004) (LuxSeCos), are fully exempt from wealth tax.
LuxCos carrying out a financial activity are assessed on the basis of an arm’s-length profit margin. This profit is expressed as a percentage of a LuxCo’s indebtedness. Thus, a LuxCo will always realise an arm’s-length profit on the financial transactions entered into, in the light of the functions performed and the risks taken, and in accordance with general market conditions. On 28 January 2011, the Luxembourg direct tax administration issued Circular LIR 164/2 (the Circular), which relates to the tax treatment of intra-group financing transactions. The introduction in Luxembourg of formal transfer-pricing rules for intra-group financial transactions was expected by the financial sector and strengthens the overall tax transparency of Luxembourg. The Circular endorses the OECD Transfer Pricing Guidelines and brings Luxembourg in line with international standards in the area of transfer pricing. In addition, the Circular formalises the process for applying for an advance pricing agreement (APA). If a LuxCo enters into an intra-group financing transaction coming within the scope of the Circular, it has to comply with a number of requirements set out in the Circular (such as substance requirements, minimum equity at risk, transfer-pricing report). On 8 April 2011, the Luxembourg direct tax administration issued Circular LIR 164/2-bis, confirming that
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from 1 January 2012, the Luxembourg tax administration would be no longer bound by APAs issued before 28 January 2011 in relation to intra-group financing transactions that would fall within the scope of the Circular. In this context, it should be noted that the general legal framework and the procedural formalities applying to APA filings are now set out in the Luxembourg general tax law and a Grand Ducal Regulation.8
The obligations assumed by a LuxSeCo towards its investors (holding equity or debt securities) and any other creditors are considered as tax-deductible expenses. Therefore, a financial transaction entered into by a LuxSeCo, if properly structured, should not give rise to any corporation taxes.9 The Luxembourg tax administration does not require a LuxSeCo to realise a minimum profit margin.
Management services rendered to LuxSeCos are exempt from VAT. This is not the case for management services that are provided to LuxCos.
Both LuxCos and LuxSeCos benefit from the wide network of tax treaties entered into by Luxembourg from a Luxembourg standpoint.
Insolvency lawInsolvency situations are governed by a set of rules that have been elaborated by courts and legal literature around the cardinal principle of pari passu ranking of creditors. Under the applicable Luxembourg law, it is possible for a company to be insolvent without necessarily being bankrupt. If a company fails to meet the two cumulative tests of bankruptcy – the cessation of payments and the loss of creditworthiness – it is not deemed bankrupt. The judgment declaring the bankruptcy, or a subsequent judgment issued by the court, usually specifies a period not exceeding six months before the day of the judgment declaring the bankruptcy. During this period, which is commonly referred to as the suspect period, the debtor is deemed to have already been unable to pay its debts generally, or to obtain further credit from its creditors or third parties. Payments made, as well as other transactions concluded or performed, during the suspect period, and specific payments and transactions during the 10 days before the commencement of that period, are subject to cancellation by the Luxembourg court upon proceedings instituted by the Luxembourg insolvency or bankruptcy receiver.
Luxembourg insolvency proceedings have, inter alia, the following effects:a As a matter of principle, bankruptcy judgments do not result in automatic
termination of contracts, except for intuitu personae contracts (i.e., contracts for which the identity of the counterparty or its solvency are crucial). Contracts, therefore, continue to exist in full force unless the insolvency receiver chooses to terminate them. Termination by reason of insolvency may also be effectively provided for in a contract.
8 These provisions are included in Section 29a of the Luxembourg general tax law and the Grand Ducal Regulation of 23 December 2014.
9 If a LuxSeCo is not liable to tax in Luxembourg, it will remain subject to a minimum lump-sum taxation. Such minimum lump-sum taxation is also applicable to a LuxCo.
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b Once a company has been declared bankrupt, unsecured creditors and the creditors with a general priority right are no longer permitted to take any action based on title to moveables and immoveables, nor any enforcement action against the bankrupt company’s assets. Actions may only be exercised against the insolvency receiver.
The foregoing does not apply in the following cases:a creditors may, notwithstanding the bankruptcy of a company, initiate proceedings
against the co-debtors of the company;b secured creditors may still enforce their rights after the bankruptcy adjudication;
andc creditors of new debts, contracted by the insolvency receiver, may still initiate
proceedings to have their rights recognised and enforced.
Luxembourg credit institutions and undertakings managing third-party funds are subject to a specific insolvency regime. They may be subject to reprieve from payment measures and liquidation proceedings only pursuant to the Luxembourg Act dated 5 April 1993 on the financial sector, as amended (the Banking Act 1993).
Reprieve from payment may be applied for if the global performance of an undertaking’s business is compromised, in the event that the undertaking is unable to obtain further credit or fresh monies or no longer has any liquidity, whether there is a cessation of payments, or in the event that a provisional decision has been taken to withdraw the undertaking’s licence. In these circumstances, the CSSF may request the court to apply reprieve from payment proceedings to the undertaking. The reprieve from payment cannot exceed six months, and the court will lay down the terms and conditions thereof, including the appointment of one or more persons responsible for managing the reorganisation measures and supervising the undertaking’s activities.
A petition for liquidation may be filed either by the Luxembourg public prosecutor or the CSSF. This will typically occur in a situation where the reprieve from payment cannot cure the undertaking’s difficult financial situation, where the undertaking’s financial situation is so serious that it can no longer satisfy its creditors or where the undertaking’s licence has been permanently withdrawn. The court will appoint a judge-commissioner and one or more liquidators. The court may decide to apply bankruptcy rules in respect of the liquidation and, accordingly, fix the suspect period (which may date back no more than six months before the date of filing the application for reprieve from payment). The court as well as the judge-commissioner and the liquidators may decide to vary the mode of liquidation initially agreed upon. The liquidation procedure is terminated when the court has examined the documents submitted to it by the liquidators and the documents have been reviewed by one or more commissioners. Voluntary liquidation by an entity is possible only where the CSSF has been notified thereof by the undertaking one month before notice is given to hold the extraordinary general meeting of the shareholders called to consider the voluntary liquidation.
Council Regulation (EC) No. 1346/2000 of 29 May 2000 on insolvency proceedings, as amended (the EU Insolvency Regulation), which applies in Luxembourg to commercial companies other than credit institutions, insurance undertakings and undertakings managing third-party funds, establishes common rules on cross-border
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insolvency proceedings based on principles of mutual recognition and cooperation. In broad terms, the EU Insolvency Regulation provides that main insolvency proceedings are to be opened in the Member State where the debtor has the centre of its main interests. These proceedings will have universal scope and encompass a debtor’s assets throughout the European Union (subject to secondary proceedings opened in one or more Member States, although such proceedings will be limited to the assets in that state and will run in parallel to the main proceedings). A Luxembourg party will in principle be subject to the Luxembourg insolvency proceedings if it has its centre of main interests (COMI) in Luxembourg. The COMI is presumed, in the case of a company or legal person, to be the place of its registered office. Regulation (EU) 2015/848 of the European Parliament and of the Council of 20 May 2015 on insolvency proceedings (recast) (the Recast Insolvency Regulation) was published in the EU Official Journal on 5 June 2015. The Recast Insolvency Regulation entered into force on 26 June 2015 and the majority of its provisions will apply as from 26 June 2017.
v Role of exchanges, central counterparties and rating agencies
LxSEThe LxSE was incorporated on 5 April 1928 as a société anonyme and the first trading session took place on 6 May 1929; in November 2000, it entered into a cooperation agreement with Euronext. The LxSE is managed by a board of managers appointed by the general meeting of the LxSE’s shareholders.
The LxSE is the competent body for all decisions and operations relating to the admission of securities, their suspension, withdrawal and delisting, the maintenance of its official list, and for the transfer of securities from one market to another and for all the continuing obligations of issuers. It is the operator of the regulated market denominated LxSE and of the Euro MTF market. The main activities of the LxSE are listing, trading, distribution of financial reports for the investment funds industry, trade reporting and data vending.
The LxSE primarily specialises in the issue of international bonds (for which it is ranked first in Europe), with 25,954 debt securities listed as of 3 September 2015. The LxSE maintains a dominant position in European bond issues, with the majority of all cross-border securities in Europe being listed in Luxembourg. Fifty countries list at least some of their sovereign debt in Luxembourg, while Luxembourg is also a market for debt from large organisations such as the European Bank for Reconstruction and Development, the European Investment Bank, the European Union and the World Bank. The LxSE’s main equity index is called the LuxX Index, which is a weighted index of the 10 most valuable listed stocks by free-floated market capitalisation.
Clearstream LuxembourgClearstream Banking, SA in Luxembourg is one of the major European clearing houses through which more than 2,500 banks, financial institutions and central banks worldwide exchange financial instruments. It is wholly-owned by Clearstream International SA, which is a wholly-owned subsidiary of the Deutsche Börse Group. Clearstream Banking ensures that cash and securities are promptly and effectively delivered between trading parties. It also manages, administers and is responsible for the safekeeping of the securities
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that it holds on behalf of its customers. Over 300,000 domestic and internationally traded bonds, equities and investment funds are currently deposited with Clearstream Banking. Clearstream Banking settles over 250,000 transactions daily and is active in 50 markets.
Clearstream Banking is often described as a bank for banks. Basically, its duty is to record transactions between the accounts of different participants in Clearstream Banking, and use that data to calculate the relative financial positions of the participants in relation to each other.
LuxCSDLuxCSD, a new central securities depository for Luxembourg, is jointly (fifty-fifty) owned by the Luxembourg central bank and Clearstream Banking. LuxCSD provides the financial community with central bank money settlement services as well as issuance and custody services for a wide range of securities including investment funds.
LuxCSD was designated a securities settlement system by the Luxembourg central bank, which is a requirement to operate under the protection of the Settlement Finality Directive, and has received European Central Bank approval for its Securities Settlement System (SSS) being eligible for use in the collateralisation Eurosystem credit operations.
Rating agenciesCurrently, no Luxembourg-based rating agency exists.
vi Other strategic considerations
Recognition of trustsThe Luxembourg Act dated 27 July 2003 relating to trust and fiduciary contracts, as amended, recognises trusts that are created in accordance with the Convention on the Law Applicable to Trusts and on their recognition made at The Hague on 1 July 1985 and that are legal, valid, binding and enforceable under the law applicable to the trusts.
Securitisation Act 2004In adopting the Securitisation Act 2004, Luxembourg has given itself one of the most favourable and advanced pieces of European legislation for securitisation and structured finance transactions. According to the Securitisation Act 2004, securitisation means a transaction by which a Luxembourg securitisation undertaking (in the form of a LuxSeCo or a fund managed by a management company) acquires or purchases risks relating to certain claims, assets or obligations assumed by third parties, and finances such acquisition or purchase by the issue of securities, the return on which is linked to these risks.
The Securitisation Act 2004 distinguishes between regulated and unregulated securitisation undertakings. A securitisation undertaking must be authorised by the CSSF and must obtain a licence if it issues securities to the public on a continuous basis (these two criteria applying cumulatively). Both regulated and unregulated securitisation undertakings benefit from all the provisions of the Securitisation Act 2004.
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A securitisation undertaking must mainly be financed by the issue of instruments (be it equity securities or debt securities) that qualify as securities under their governing law.
The Securitisation Act 2004 does not contain restrictions as regards the claims, assets or obligations that may be securitised. Securitisable assets may relate to domestic or foreign, moveable or immoveable, future or present, tangible or intangible claims, assets or obligations. It is also accepted that a securitisation undertaking may, under certain conditions, grant loans directly. Very advantageous provisions for the securitisation of claims have been included in the Securitisation Act 2004.
To enable the securitisation of undrawn loans or loans granted by the securitisation undertaking itself, the Banking Act 1993 exempts such transactions from a banking licence requirement. Furthermore, transactions that fall within the scope of the application of the Securitisation Act 2004 (such as, for example, credit default swaps) do not constitute insurance activities that are subject to Luxembourg insurance legislation.
The Securitisation Act 2004 allows the board of directors of a securitisation undertaking to set up separate ring-fenced compartments. Each compartment forms an independent, separate and distinct part of the securitisation undertaking’s estate and is segregated from all other compartments of the securitisation undertaking. Investors, irrespective of whether they hold equity or debt securities, will only have recourse to the assets encompassed by the compartment to which the securities they hold have been allocated. They have no recourse against the assets making up other compartments. In the relationship between the investors, each compartment is treated as a separate entity (unless otherwise provided for in the relevant issue documentation). The compartment structure is one of the most attractive features of the Securitisation Act 2004, as it allows the use of the same issuance vehicle for numerous transactions without the investors running the risk of being materially adversely affected by other transactions carried out by the securitisation undertaking. This feature allows securitisation transactions to be structured in a very cost-efficient way without burdensome administrative hurdles. It is important to note that there is no risk-spreading requirement for compartments. It is hence possible to isolate each asset held by the securitisation undertaking in a separate compartment.
The Securitisation Act 2004 also expressly recognises the validity of limited recourse, subordination, non-seizure and non-petition provisions.
Rating agencies are very comfortable with transactions structured under the Securitisation Act 2004 as legal counsel can usually issue clean legal opinions.
From a tax perspective, there is full tax-neutrality for securitisation undertakings (for further information, see Section II.iv, supra).
The CSSF has published an FAQ document setting out guidelines regarding transactions that a securitisation undertaking may enter into. Although these guidelines only apply to securitisation undertakings regulated by the CSSF, the tax administration tends to apply these guidelines to unregulated securitisation undertakings as well to decide whether their transactions qualify as securitisation transactions. The CSSF has recently confirmed in the FAQ, by reference to a frequently asked question document published
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by the European Commission on 25 March 2013,10 that an issuer that exclusively issues debt instruments does not constitute an alternative investment fund (AIF) and hence does not fall within the ambit of Directive 2011/61/EU on alternative investment fund managers (AIFMD). In addition, according to the CSSF, securitisation undertakings issuing structured products providing a synthetic exposure to assets (for instance, shares, indices, commodities) based on a set formula and which acquire underlying assets or enter into swap arrangements only with a view to hedging their payment obligations with regard to investors in the structured products may, subject to the criteria set out in guidance issued by the European Securities and Markets Authority (ESMA), be considered as not being managed according to an investment policy and would hence fall outside the scope of the AIFMD.
It is interesting to note that an email address11 has been created to discuss queries concerning the Securitisation Act 2004 with the CSSF.
Covered bondsA covered bond is a debt security issued by a covered bond bank and guaranteed by a cover pool specifically allocated to these securities. To date, the issuance of covered bonds is restricted to covered bond banks, which must limit their principal activities to the granting of loans that will be specifically secured and that will be refinanced by way of issuing covered bonds. Other activities may only be performed on an ancillary basis. The Luxembourg covered bond framework also caters for certain aspects of the issue of covered bonds by Luxembourg branches of credit institutions located in other EU or EEA Member States.
Covered bond banks are subject to the prudential supervision of the CSSF and the specific supervision of an approved special statutory auditor appointed by the CSSF upon recommendation of the covered bond bank that ‘supervises’ the coverage assets in respect of covered bonds.
Four types of covered bond may be issued by covered bond banks:a public sector bonds, guaranteed by claims against, or guaranteed by, public entities
(i.e., Member States of the EU, the EEA, the OECD or non-OECD states that fulfil certain credit rating criteria), the state sector or public local entities;
b mortgage bonds, guaranteed by rights in or security interest over real estate;c moveable property bonds, guaranteed by moveable property rights or moveable
property collateral; andd cooperative covered bonds, guaranteed by claims against or debt securities issued
by cooperative banks from the EU, the EEA or the OECD that participate in an institutional protection scheme meeting the requirements of the Banking Act 1993.
Bonds and other similar debt instruments issued by credit institutions established in a Member State of the EU, the EEA or the OECD or in a non-OECD state that fulfils
10 Questions on Single Market Legislation/Internal Market; General question on Directive 2011/61/EU; ID 1169, Scope and exemptions.
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certain credit rating criteria and that are secured by claims against public sector entities, by rights in rem over real estate, moveable property or claims against or debt securities issued by cooperative banks may, subject to certain conditions, also serve as coverage assets. In addition, the coverage assets may encompass bonds or other debt securities issued by a securitisation undertaking.
Covered bond banks benefit from a derogation in the bankruptcy legislation whereby creditors have direct access to the bank’s assets in cases of insolvency. The coverage assets may not be attached or seized by creditors of the covered bond bank other than the holders of the covered bonds.
Luxembourg covered bond banks may either be subject to reprieve from payment or liquidation proceedings under the Banking Act 1993. As from the commencement of any of these proceedings, one or more ad hoc managers appointed by the district court will manage the outstanding covered bonds and the coverage assets. The covered bonds and the corresponding coverage assets will not be affected by the above proceedings, in that the coverage assets underlying and securing covered bonds will be segregated from all other assets and liabilities of the covered bond bank. Reprieve from payment proceedings may also be opened in respect of any of the estate compartments established for each category or type of covered bond.
The success of the Luxembourg covered bond regime is based on different factors. First, given the international dimension of the Luxembourg covered bond framework, Luxembourg covered bond banks may lend to borrowers in all OECD countries. Second, Luxembourg covered bond banks may not only lend to states and regional entities but also to public undertakings where a state or regional or local authorities exercise a direct or indirect influence. This is important, because it means that the Luxembourg covered bond banks can reach a different but very lucrative segment in the world of public finance. As a result, a Luxembourg covered bond bank may practise an international diversification policy, with the result that Luxembourg covered bonds are less vulnerable to the risk of downgrading of sovereign ratings. Cover pools in Luxembourg are thus very dynamic and can be directed to target risk minimisation.
Luxembourg limited partnershipThe Act of 12 July 2013 (which implements the AIFMD) has modernised the Luxembourg limited partnership regime by reference to the Anglo-Saxon limited partnership, which is a popular investment vehicle for structuring venture capital or private equity investments.
There are now three types of partnerships in Luxembourg: the common limited partnership (CLP), an intuitu personae partnership with legal personality; the newly introduced special limited partnerships (SLP), an intuitu personae partnership without legal personality; and the partnership limited by shares (SCA), a joint-stock company with partnership features.
Only technical adjustments have been made to the SCA regime as the SCA has already benefited from an attractive regime with respect to the level of protection and control granted to the initiator of the structure. The SCA has already been widely used in investment structures.
As for the regime applicable to the CLPs, it has been thoroughly overhauled to encourage the use of this type of investment vehicle. Furthermore, a new type of investment vehicle, the SLP, which benefits from a favourable structural and tax regime,
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has been introduced. The SLP is an intuitu personae partnership, which has no legal personality and which is subject to few statutory provisions. Most of its features may be freely determined in the limited partnership agreement entered into between the unlimited partners and the limited partners.
The key points of the new limited partnership regime (for CLPs and SLPs) are as follows:a the identity of limited partners may remain confidential;b the management of the limited partnership is entrusted to one or more managers,
who may or may not be unlimited partners;c the limited liability of a partner is not jeopardised if such a partner performs
internal management duties only;d the rights of partners in the partnership are evidenced either by securities or by
entitlements recorded in partnerships accounts; ande there are no statutory restrictions on the issue and reimbursement of partnership
interests; on the sharing by partners in the profits and losses; on the distributions to partners, whether in the form of profit distributions or reimbursements of partnership interests; on the voting rights; or on transfers of partnership interests.
By revamping its partnerships regime to address the current needs of market players, Luxembourg has further strengthened its position as one of the top European jurisdictions for the domiciliation of investment structures.
vii Future legislative changes
Luxembourg trustThe Luxembourg government proposes to introduce the notion of a trust similar to the English trust or the Dutch Stichting into the Luxembourg legal framework with a view to strengthen, among others, the Luxembourg wealth management sector. Discussions inspired by the works of the Haut Comité de la Place Financière (an advisory body to the government in matters concerning the financial sector) are currently ongoing at a national level.
Insolvency lawThe Luxembourg government is proposing to overhaul the Luxembourg insolvency regime with a view to its modernisation. A bill to that effect is currently pending in Parliament providing for a legal framework prioritising (where practicable) the preservation and/or reorganisation of a debtor’s business as opposed to the liquidation thereof. The proposed amendments include:a the implementation of various mechanisms that help companies in financial
difficulties to (i) avoid bankruptcy proceedings and (ii) allow them to preserve their business;
b giving a second chance to businessmen, who in the past acted in good faith, but nevertheless were subject to insolvency proceedings, to open a new business;
c preventing businessmen, whose business failed and who acted in bad faith, from setting up new businesses;
d the implementation of mechanisms to protect employees and preserve jobs; and
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e the amendment of certain specific provisions of the bankruptcy procedure with a view to its modernisation and the abolishment of certain obsolete insolvency procedures (e.g., controlled management and reprieve from payment) which are not (or very rarely) used in practice.
With respect to the Recast Insolvency Regulation, see Section II.iv, supra.
EMIRBill No. 6846 lays down the powers of supervision, intervention, inspection, investigation and sanction granted to the CSSF and the Luxembourg Insurance Commission as national competent authorities for the implementation of EMIR.
Proposed amendments to the Transparency Act Bill No. 6860 will extend the definition of ‘issuer’ to include issuers of non-listed securities that are represented by depositary receipts admitted to trading on a regulated market. Further, the bill amends a number of definitions (including the definition of home Member State) and introduces further administrative sanctions. The bill also contemplates changes to the way and the manner in which information must be made available.
III OUTLOOK AND CONCLUSIONS
We continue to live in challenging times. The financial crisis has changed first into an economic recession and then into a public finance crisis. Although one can see on the horizon signs of recovery for an increasing number of countries, the global economy remains fragile for various reasons (including the political instability in the Middle East and the slow-down of the economies of the BRIC countries and the Next Eleven countries).
International bodies such as the IMF, the FATF, the OECD and the European authorities want to set aside the competitive distortions that result from a regulatory playing field that is not level, and try to eradicate weaknesses in regulation and supervision that might adversely affect the stability of the international financial systems, by moving towards a single rule book.
The financial sector plays a key role in Luxembourg’s economy, and the Luxembourg authorities (especially the CSSF) strive to find the right balance between increased supervision and the need for sufficient room to manoeuvre to allow the financial sector to breathe and to develop. The Luxembourg authorities recognise that the trend is towards a common supervisory culture and a harmonised application of a single rulebook that deprives them of large parts of their flexibility in the regulation and supervision of the financial sector.
To maintain the attractiveness of Luxembourg in a context where the regulatory framework becomes more and more harmonised, there are clear signals that the Luxembourg authorities want to differentiate themselves from their foreign counterparts by quality of service, responsiveness and approachability. The Luxembourg authorities are putting a particular focus on maintaining Luxembourg’s role as (1) the leading
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international renminbi (Chinese currency) centre in the euro area, with now six major Chinese banks having established their European headquarters in Luxembourg, and (2) one of the leading Islamic finance centres in Europe. Further, the Ministry of Finance has relaunched the Haut Comité de la Place Financière to create an institutionalised platform for the exchange of information between key stakeholders of the financial markets and the government, with a view to ensuring that Luxembourg stays at the forefront of economic and financial developments. Several working groups have been set up by the Haut Comité de la Place Financière to modernise Luxembourg’s legal framework (including the banking, fund and securitisation legislation) to respond to the needs of the markets and their players.
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Chapter 19
MEXICO
René Arce Lozano and Lucía Báez de Hoyos1
I INTRODUCTION
The Mexican securities regulatory framework is divided between general commercial laws affecting the securities market and specific securities market laws. There are two basic groups of specific securities market regulatory bodies: the first includes the Securities Market Law and the Mutual Funds Law (formerly known as the Investment Companies Law and amended on 13 June 2014), which provides the general operational framework for securities commercial acts and mutual funds; and the second group comprises several general regulations issued by the National Banking and Securities Commission (the Commission).
As in other jurisdictions, securities regulation authority is divided among various institutions and organisations; there are some private entities as well as governmental agencies. The main regulator for the sector in Mexico is the Ministry of Treasury and Public Credit (the Ministry), which performs most duties in this sector through a semi-independent agency: the Commission. The Commission is responsible for the supervision and regulation of financial entities, natural persons and other entities when they perform specific activities regulated under the corresponding laws of the financial sector; its purpose is to protect the interests of the general public.
The Commission is entrusted with important powers, some of which are shared or require coordination with other agencies or departments of government. One of the most important duties includes the issuance of regulations, mainly in the form of circulars regulating different sectors and entities. Circulars regulate and detail general laws and regulations in various areas of financial activity. The Commission regulates the securities market by issuing General Regulations and by authorising public and
1 René Arce Lozano is a partner and Lucía Báez de Hoyos is an associate at Hogan Lovells BSTL, SC.
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private offerings. It also oversees the general activities of participants in the securities market and has monitoring and enforcement powers and the legal authority to conduct investigations, request information and issue advice and warnings. These can be directed at firms as well as individuals.
The Commission authorisation of registration of securities before the National Securities and Brokers Registry is a prerequisite in the process of a public offering or the registration of brokerage firms. The Commission also participates in the approval of certain aspects regarding the internal operation of the Mexican Stock Exchange (MSE).
The Central Bank (Banco de México) is the autonomous government agency responsible for monetary policy and is defined as the central bank by a constitutional provision. Most of this authority is exercised in conjunction with the Commission, the Ministry and other agencies such as National Insurance and Bonding Commission and the National Pension Fund System Commission, which are also of relevance.
Aside from its main monetary policy powers, the Central Bank issues regulations that apply to financial institutions and persons in the banking and securities industries. It also has veto powers over certain regulations issued by the Commission under determined causes. The Central Bank is also responsible for the placement and issuance of governmental securities.
II THE YEAR IN REVIEW
On 10 January 2014, a major financial reform was published in the Mexican Official Gazette, which included 13 initiatives that sought to amend, add and repeal various provisions of certain regulations of the financial sector.
The financial reform established the bases for a new era in the Mexican financial sector, amending a total of 34 statutes, with the purposes of encouraging healthy competition; promoting lending activities by development banks and commercial banks; maintaining a solid and prudent financial sector; and promoting increased efficiency for financial institutions and related entities. Particularly in terms of the securities market, the reform’s purpose includes making the operations of the securities market more efficient and improving the performance of its players, in a framework that provides clarity and transparency for investors, authorities, intermediaries and other participants.
Part of its objective is to get a larger number of investors to participate in the debt and capital markets, and establish solid sale practices by credit institutions and brokerage firms in securities transactions, and applying such provisions to mutual funds operating companies. The Commission also plays an important role with increased authority to provide discipline in the markets that it regulates, supervises and penalises, with specific authorities regarding control and regulation, and publicity of information. With respect to mutual funds, the reform provided important changes to update the corporate regime that governs mutual funds and its operating companies, simplifying some of the formalities, costs and time frames applicable to their incorporation and operations. Thus, the reform provides increased legal certainty to the financial sector, which is expected to grow and show benefits both for users and for the financial institutions with the offer of better financial products, access to credit lines and competitive rates, and create an improved and more sophisticated financial culture in Mexico.
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If a comparison of the financing granted by the banking in Mexico with other countries was made at the time of the reform being published, the Mexican financial sector would have been found to be below the average of Latin America. Banking in Mexico only contributed 26.1 per cent of GDP, only 32 per cent of its national companies had credit facilities and 15 per cent of that 32 per cent was directed to small and micro enterprise development companies, which generate 74 per cent of the employment in Mexico. This was a negative factor in terms of combating inequality.2
Mexico had several financial strengths, but they had not been aimed at companies and productive projects. With the financial reform, an increase in private sector financing is expected, which will generate higher levels of consumption, investment and an annual economic growth of about an additional half percentage point between 2015 and 2018.
i Developments affecting debt and equity offerings
With the publication of the financial reform, several amendments entered into force immediately, and consequently, several provisions are in development for its early implementation.3 Regarding the securities market, the financial reform intends to streamline the operation of the domestic stock market and improve the dynamic performance of the entities that comprise it, in an environment of greater clarity for users, intermediaries, officials, regulators and other members of the securities market.
Aiming to safeguard the interests of public investors, the Securities Market Law empowered the Commission to issue general provisions that regulate activities of brokerage firms and credit institutions regarding limits to the placement of securities, investment services, analysis of financial products, among others.
With the reform of the Securities Market Law, a system that allows issuers the possibility of making public offerings addressed to certain types of investors, such as institutional investors or investors qualified to give instructions to the board, was established. In this regard, the Commission was attributed the issuance of general provisions providing the characteristics that these kinds of offerings must comply with, the requirements that must be met by the issuers for their implementation, as well as the creation of more flexible arrangements for the disclosure of information, placement, among other related matters.
Provisions regulating the obligation for issuers to present a document with key information containing the requirements established by the Commission were included, in order to benefit investors and the market in general, and for appropriate investment decision-making in concordance with the principle of disclosure of information contained in the Securities Market Law.
To encourage registration in the National Securities and Brokers Registry of shares representing the capital stock of corporations promoting stock investment, a special regime for the placement prospectus, registration and maintenance requirements,
2 Instituto Mexicano para la Competividad, A.C. http://imco.org.mx/wp-content/uploads/2013/09/LaReformaFinancierayLosRiesgosdelCredito.pdf.
3 Secretaría de Hacienda y Crédito Público [Ministry]. www.shcp.gob.mx/SALAPRENSA/doc_informe_vocero/2014/vocero_02_2014.pdf.
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and disclosure of financial information for such companies was established, while safeguarding the interests of the public investors and in line with the principle of disclosure of information. This has resulted in a more dynamic and diversified sector that facilitates the addition of more companies to the securities market.
The financial reform aimed to include in the scope of regulation and supervision of the Commission, the multiple purpose financial corporations that issue debt securities registered in the National Securities and Brokers Registry under the Securities Market Law, or in respect of trust securities also registered in that Registry, when the fulfilment of obligations relating to the securities issued under the trust depend in whole or in part on those corporations, acting as settlors, assignors or administrators of the trust property or as guarantors of such securities.
It was essential to adapt the provisions of the Regulations Applicable to Issuers (the Regulations) issued by the Commission that govern issuers in matters relating to accounting and auditing principles, which will result in a legal framework that gives those companies certainty in their operation on the enforcement of those provisions.
Precisions to the accounting criteria applicable to the financial statements of issuers that, through their subsidiaries, engage in financial activities subject to the supervision of Mexican financial authorities, were made in order to benefit the investing public and the securities market in general by making the financial information of such issuers comparable to others.
In addition, the Commission regulated the obligation of issuers to include the expected benefits of the contracts and assignments on exploration and extraction of hydrocarbons they participate in within the content and presentation of their accounting and financial reports, as established in the Hydrocarbons Law, as well as the obligation to submit such information to the Mexican Petroleum Fund and to the Ministry, for public investors to have relevant information on such exploration and exploitation.
Considering the global aspect of the stock market, the regime applicable to stock exchanges to execute agreements with foreign stock exchanges and establish systems for channelling orders to that effect was included. In this matter, the Commission is empowered to issue the applicable authorisations, and not only public offerings but all offerings made outside national territory must be notified to the Commission, accompanied by all their relevant information.4
Provisions were established to allow the Commission the recognition of public offerings of securities issued in markets with which the stock exchanges have entered into agreements to facilitate the access to their negotiating systems. The recognition of such public offerings by the Commission so that they can be carried out in national territory aim to provide a better understanding of the market and expand the range of investment options available for public investors, safeguarding at all times the disclosure of information to the market, protecting the interests of investors.5
4 PwC México Sector Financiero. Análisis de la Reforma Financiera. www.shcp.gob.mx/SALAPRENSA/doc_informe_vocero/2014/vocero_02_2014.pdf.
5 Comisión Nacional Bancaria de Valores (Commission). Normatividad (CUE) (Regulations).
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ii Developments affecting derivatives, securitisations and other structured products
DerivativesOn 12 May 2014, an amendment to the regulations which the participants of the derivative contracts listed in exchanges must comply with was published in the Mexican Official Gazette. Such reform aimed to implement the following measures:a the requirement to negotiate all standardised derivative contracts on exchanges
or electronic platforms and to perform the clearance and settlement of such contracts through central counterparties;
b greater standardisation of derivative transactions;c the requirement for market participants to report all information from their
derivative transactions to the central information records; andd the determination of higher capital charges and the constitution of bilateral
guarantee margins for derivative transactions that are not cleared or settled through central counterparties.
To be able to comply with the previous measures, the regulation was amended in order to give greater transparency and structure to the derivatives market, including measures to improve the regulation of the standardised derivatives contracts, as well as a scheme of regulation and control for secondary market derivative contracts.
Clearing houses are now allowed to clear and liquidate derivative transactions traded on electronic platforms, enabling better risk management of operations. The new regulation operatively unlinks clearing houses from derivatives exchanges, allowing them to operate independently. The possibility of creating clearing houses and clearing partners that exclusively provide services for standardised derivative operations through trading platforms is established.
Clearing houses can now provide ‘repository of information’ for derivatives, whether they are cleared in it or not, allowing greater flow of information and transparency.6
SecuritisationsAs for securitisations, the Securities Market Law now allows for the securitisation of credit and collectable rights by non-financial institutions. This secondary market is expected to experience a consistent growth in the coming years. Further implementation will require precise legal and financial engineering considering the almost non-existent precedents in Mexico on these issues.
iii Cases and dispute settlement
In Mexico, certain administrative agencies, such as the Commission and the CNSF, are taking the lead in the sector and currently have broad authority to regulate the financial sector and maintain jurisdiction over disputes on securities and banking matters.
6 Banco de México (Central Bank).
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The resolutions of the agencies may be appealed within the administrative courts. Administrative courts in Mexico may also create binding precedents for inferior courts. Administrative courts may create this binding precedent by adhering to specific procedures similar to those followed by the Supreme Court or the circuit courts. Even so, this type of binding precedent does not oblige judicial courts and may, in any case, be challenged by writ for amparo with federal courts, which are subject to the jurisprudence set by the Supreme Court and circuit courts.
The Commission is the authority empowered to inspect and oversee the performance of the brokerage firms and affiliates. In this regard, the Commission is able to order preventive or corrective measures (the Securities Market Law lists examples of different measures) that brokerage firms must comply with.7 The Commission may order, under certain cases, the partial suspension of the performance of one or more activities of a brokerage firm.8 Moreover, the Commission may order the intervention in the administration of a brokerage firm in circumstances when the authority considers there could be damage to the clients or creditors of the corporation.9 The general counsel appointed shall be subject to certain requirements, registries and procedures. The Commission also has the authority to revoke the authorisation granted to a brokerage firm under certain cases listed in a limited manner.10 When a foreign authority intends to inspect an affiliate, it should submit its request to the Commission in accordance with Article 358 of the Securities Market Law.11 On the other hand, brokerage firms are subject to periodic reports to be provided to the Commission in accordance with general guidelines issued by the Commission.12
iv Relevant tax and insolvency law
TaxSince 1993, Mexico has gradually but consistently entered into a full network of international agreements for trade and investments designed to avoid double taxation, thereby creating the largest number of these agreements of almost any country in the world. There are some significant exceptions to the limitations set forth by the Foreign Investment Law (FIL) allowing investors from the treaty countries to enjoy benefits not otherwise available to companies or persons of other nations.
For example, under the North American Free Trade Agreement it is possible for companies located in the US or Canada to establish affiliates in Mexico that can operate as national investors in the areas of banks, insurance, bonding, currency exchange, warehouse deposits, leasing, invoicing, and non-bank financial institutions, among others. Based on the availability of these benefits, it is necessary for the relevant investors
7 Securities Market Law, Articles 135–136.8 Securities Market Law, Articles 137–138.9 Securities Market Law, Article 141.10 Securities Market Law, Articles 153–154.11 Securities Market Law, Article 170.12 Securities Market Law, Article 212.
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to perform the required research to analyse whether they are eligible for any specific benefits under applicable treaties.
Likewise, since 1993 and the establishment of the FIL, the notion of ‘neutral investment’ was introduced into the foreign investment legal framework. Pursuant to Article 18 of the FIL, the Foreign Investment National Commission may authorise the issuance of a special series of shares with limited corporate rights that will, in turn, enable foreign investors to participate in the equity of a Mexican company without the special series of shares being taken into account to determine the existence of foreign investment in that entity. Hence, once authorised for companies where foreign investment is either restricted or capped, the special series generates an investment opportunity not otherwise available through normal series of shares. The special shares may be authorised in all sorts of companies, except for state-owned companies performing the state-restricted activities. Such shares may represent up to the percentage that the Foreign Investment National Commission authorises and will also only give its holders limited voting rights in the few specific items that the corresponding clearance indicates.
The idea behind the neutral investment shares is for Mexican companies to be able to host additional funding through foreign investors who find it possible to participate in these entities directly through standard securities and who may find it attractive to invest in these companies even where specific control is held by Mexican shareholders.
InsolvencyIn Mexico, the most common form of SPV is the fideicomiso (trust). In a Mexican securitisation, there is no risk that the financial assets transferred by the originator to a trust form part of the originator’s bankruptcy estate. The Bankruptcy Law expressly provides that the assets transferred to a trust are to be separated from the bankruptcy estate through the filing of a ‘separation action’.
Nevertheless, the law is not clear whether a trust can be subject to bankruptcy. The Bankruptcy Law only applies to insolvency of ‘merchants’, which are defined as individuals or entities that perform ‘business activites’, including trusts when the property transferred to them is for the purpose of performing ‘business activities’. The broadness of this definition creates a conflict of interpretation of whether the trusts activities in the securitisation will be considered as ‘business activities’.
Commercial law defines merchants as persons that are legally capable of performing commercial acts and such performance is their ordinary occupation. The issuance of securities is considered a commercial activity, thus it could be argued that the trust is a ‘merchant’; hence it would be subject to the Bankruptcy Law. To mitigate this risk, the trust has to be created for the specific purpose of issuing securities under the express instructions of the originator. Thus courts will likely construe that, even though the trust performs acts of commerce, it does not do it as an ordinary occupation. In such case, the trust would not be considered a ‘merchant’.
The aforementioned will be achieved if the document through which the trust is created does not include any business activities in its purpose and expressly states that it will only issue securities under the express instructions of the trustor. Furthermore, since the objective is that bankruptcy laws do not apply to the trust, it is very important to establish the liquidation process that will regulate in case the trust becomes insolvent in compliance with the applicable legislation.
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v Role of exchanges, central counterparties and rating agencies
ExchangesWhile in theory many stock exchanges could operate in Mexico, to date the MSE is the only stock exchange in Mexico. The MSE’s trading floor is located in Mexico City with an information centre in the city of Monterrey, Nuevo León, Mexico. Transactions in the money and capital markets are carried out through electronic means.
The MSE is a private entity operating with a concession from the government granted by the Ministry and under observation by the Commission. The MSE provides the technology and regulatory rules under which the Mexican securities market operates. The primary purpose of the exchange is the listing, trading and recording of trades in stocks, participation certificates, fixed-income instruments and warrants. The process for the offering, maintenance and delisting of securities requires the participation of the Commission and the National Securities and Brokers Registry. The MSE may suspend trading of securities under the requisite circumstances and is entitled to sanction its own members.
Although almost all trading of securities registered with the MSE is carried out by brokerage firms, banks also play a role as issuers, purchasers and, sometimes, traders of securities. Under certain circumstances, operating companies of investment companies may also trade registered securities.
Subject to the approval of the Commission, the exchange issues its own internal regulations and establishes its own procedures. Its internal regulations include rules regarding the registration of securities for trading, terms and conditions for trading, rights and obligations of issuers and record-keeping duties of brokerage firms and investors.
The stock exchanges may invest in instruments representing the capital stock of other stock exchanges and derivative financial instruments, securities depository firms, central counterparties of securities, clearing houses of derivative financial instruments, corporations that manage systems to facilitate securities transactions, price providers, companies that render complementary or auxiliary services of administration or in the performance of their corporate purpose as well as real estate companies that are owners or managers of real estate used as their offices.
The companies referred in the above paragraph are subject to the inspection and surveillance of the Commission when the stock exchanges have control over the same.
Central counterpartiesThe centralised service of deposit, storage, administration, compensation, liquidation and transfer of securities is considered a public service and may only be developed by securities depository firms and the Bank of Mexico. The service of compensation may be rendered by central counterparties of securities. The brokerage firms and the central counterparties of securities, via the Securities Market Law, will have the capacity of self-regulatory bodies.
In order to be organised and operate as a central counterparty of securities, the concession of the federal government is required, which will be discretionarily granted by the Ministry, after it has obtained the opinion of the Commission and the Bank of Mexico, to the corporations organised pursuant to the special provisions contained
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under the Securities Market Law and, to the extent not provided therein, by the General Law of Business Organisations.
Activities that have as a purpose reducing the risks of obligation breaches on behalf of the intermediaries of the stock market, assuming the nature of reciprocal debtor and creditor of rights and obligations deriving from transactions with securities previously agreed on its own and on behalf of third parties between said intermediaries, by means of novation, are considered a public service and may be performed only by central counterparties of securities.
Rating institutionsActivities that have as a purpose the usual and professional rendering of services consisting in the study, analysis, opinion, evaluation and report regarding the credit quality of securities must be reserved to securities rating institutions.
In order to be organised and operate as a securities rating institution the authorisation of the Commission, upon prior resolution of its governing board, is required. Said authorisation will be granted to the corporations organised pursuant to the general provisions contained in the Securities Market Law and, to the extent not provided therein, by the General Law of Business Organisations. Due to their nature, these authorisations are not transferable.
The securities rating institutions must disclose to the public the rating they perform regarding securities registered before the National Securities and Brokers Registry or to be registered in the same, as well as their modifications and cancellations, through the methods established by the Commission by means of general provisions. Said ratings must be performed pursuant to the rating process included in the Securities Market Law.
Likewise, the Commission will establish in the mentioned provisions the financial, administrative and operative information that the securities rating institutions must provide.
Cross-border operationsThere are two possible forms in which transactions with securities involve cross-border operations: either those performed by foreign investors with respect to Mexican issuers quoted in the Mexican markets, or those where Mexicans may invest in foreign securities.
In essence, the general rule is that there are no restrictions on foreigners acquiring Mexican securities, including the shares of newly created or existing companies, or for that matter their assets. A significant effort of deregulation and the activation of several investment and foreign trade treaties have resulted in the elimination of most limitations on the areas or percentages in which foreign investors could freely participate. The FIL as amended to date has only kept a rather small list of activities where there are still some sectors and industries where foreigners will find some limitations to the otherwise general investment freedom that exists.
In addition to observing the limitations that may apply depending on the specific activity that a foreign investor wishes to engage in, the FIL created the Foreign Investments National Registry as a depository of information that must be completed by all Mexican companies in which there is foreign investment. While the information in the Foreign Investments National Registry is not public, it does provide statistical data
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that the Mexican state uses to gauge the origin, size and overall details of investments made in Mexico.
In the case of public companies, the rules imposed by the FIL equally apply in spite of their stock being quoted in the securities market. The only potential difference is that where foreign investment is channelled through institutional investors, mutual funds or other global investment tools, then only the first tier of investors will formally appear in the Foreign Investments National Registry.
III OUTLOOK AND CONCLUSIONS
Securitisations may vary from country to country, but most legal structures are designed with the objective of mitigating the main risk that concerns all investors: the protection of their investment. Legal structures used to securitise assets around the world seek to create bankruptcy-remote SPVs with the purpose of obtaining the highest possible rating of their securities, thus providing the highest level of security to investors.
Even though such differences provide investors with different levels of risks depending on the jurisdiction they plan to invest in, experienced lawyers and bankers strive to look for a way to structure securitisations in a way that minimises risks for investors. Furthermore, seeing the advantages that securitisations pose to the economy, lawmakers are becoming more aware of the necessity of providing a legal system that provides a balance between the feasibility of securitisations, the protection of investors and the protection of the financial system.
With the recent Mexican financial reform, lawmakers established a framework that provided the bases for a new era in the Mexican financial sector. This financial reform aims to encourage healthy competition; increase private sector financing; promote lending activities by development banks and commercial banks; increase efficiency for financial institutions and related entities; and provide more clarity and transparency for the securities market players.
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Chapter 20
NETHERLANDS
Mariëtte van ’t Westeinde and Martijn Schoonewille1
I INTRODUCTION
The Netherlands has a long history in capital markets. The Amsterdam stock exchange is regarded as the oldest in the world and share trading originated in Amsterdam, where the Verenigde Oostindische Compagnie (Dutch East India Company), a large private trading company, was in permanent need of funds to finance the shipping of goods from the Far East.2 The shares in this company were the first shares to be traded in the world, and at the start of the 17th century they were heavily traded on the Damrak, a street in Amsterdam close to the Dutch exchange’s current premises.
Until 20 June 2014, the main stock exchange Euronext Amsterdam formed part of NYSE Group Inc, which was acquired by the IntercontinentalExchange Group, Inc in November 2013.3 As of 20 June 2014, the shares in the capital of Euronext NV, the holding company of the Dutch operator of the main Dutch regulated markets, are admitted to trading on the regulated markets of Euronext in Paris, Brussels and Amsterdam. Euronext NV is the holding company of a pan-European exchange group which operates equity, fixed income and derivatives markets in Paris, Brussels, Lisbon and Amsterdam and a recognised investment exchange in the United Kingdom.
Whereas 2013 was a very quiet year as to absolute numbers of listings on the Dutch regulated markets, 2014 has already shown a substantial number of entities entering the
1 Mariëtte van ’t Westeinde is a partner and Martijn Schoonewille is a senior associate at Loyens & Loeff NV. The authors would like to acknowledge the assistance of their colleagues Louis Lutz (Tax) and Vincent Vroom (Insolvency and Restructuring) in writing this chapter. This chapter is accurate as of November 2014.
2 See https://www.euronext.com/nl/markets/nyse-euronext/amsterdam (viewed on 15 September 2014).
3 Prospectus Euronext NV, 10 June 2014.
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Dutch capital markets, among which is Altice SA, a Luxembourg multinational cable and telecommunications company, which raised €1.3 billion, making it the largest initial public offering (IPO) since 2006.4
With regard to the bond markets, the Netherlands has seen a huge growth in Dutch residents turning to the bond markets. Pursuant to data published by the Dutch Central Bank (DCB) in August 2013, the outstanding amount of Dutch corporate bonds had reached its record level of €105 billion in the first quarter of 2013.5 More recently, DCB announced that the second quarter of 2014 saw continued high issues of Dutch bonds, a major part of which was raised as new financing.6
After a brief introduction on the Dutch legal framework, competent regulators and the manner in which disputes are resolved in the Netherlands, recent developments and emerging trends on the Dutch capital markets are discussed prior to the final section, which provides an outlook and conclusions.
i Legal framework
The Netherlands is a member of the European Union and the European Economic Area. Consequently, the European directives (once implemented) and regulations dealing with capital markets apply in the Netherlands.
The primary sources of Dutch securities law are:a acts;b royal decrees;c ministerial regulations;d regulations issued by (semi-)governmental authorities (such as the DCB and the
Netherlands Authority for the Financial Markets (AFM)); ande policy statements and other statements of general applicability issued by (semi-)
governmental authorities.
Furthermore, every so often the regulators issue interpretations in individual cases from which policy can be derived. Historically, case law relating to capital markets does not play a large role in the Netherlands (unlike that in Anglo-Saxon jurisdictions), and what is available is limited.
The Netherlands does not have one act that includes all capital market rules. However, the Act on Financial Supervision (AFS) and the regulations promulgated thereunder is considered the main statute when it comes to securities legislation in the Netherlands.
4 Press release, ‘Altice celebrates Initial Public Offering on Euronext Amsterdam’, 31 January 2014; Het Financieele Dagblad, ‘Voor beursgangen is 2014 nu al een topjaar’, 18 September 2014.
5 Press release Dutch Central Bank ‘Dutch corporate bond market grows to over €100 billion’, 6 August 2013.
6 Press release Dutch Central Bank ‘Outstanding amount of Dutch debt securities reaches record level’, 18 August 2014.
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Many of the rules contained in the AFS implement the European directives, such as the Prospectus Directive (2003/71/EC), as amended, the Market Abuse Directive (2003/6/EC), the Takeover Directive (2004/25/EC), the Transparency Directive (2004/109/EC), the Markets in Financial Instruments Directive (2004/39/EC) and the Alternative Investment Fund Managers Directive (2011/61/EU). Hence, the AFS and its implementing regulations deal with, inter alia, the primary offering of securities, market abuse, disclosure obligations, reporting obligations of issuing institutions, public takeover bids, the supervision of trading platforms, investment firms and alternative investment fund managers.
ii Regulators
As in a number of the adjacent jurisdictions, the Netherlands has a ‘twin peaks’ supervision model. This model focuses on conduct of business supervision on the one hand and system supervision and prudential supervision on the other hand. Whereas the DCB is the competent regulator for system and prudential matters, the AFM is the competent regulator responsible for the conduct of business supervision.7 As such, the AFM bears the principal responsibility for the supervision and enforcement of most securities laws.
The Dutch Minister of Finance, who bears ultimate responsibility for most securities regulations, is also the competent authority for specific financial regulatory matters, such as the granting of licences to market operators of regulated markets.
In the event of non-compliance with securities laws, the regulators may impose administrative sanctions (e.g., penalties, orders and ‘naming and shaming’) on both the infringing corporate entity and its directors. Alternatively, in certain cases, non-compliance with securities laws may lead to the imposition of criminal law sanctions such as fines or imprisonment. The AFS stipulates that non-compliance with securities laws does not affect the validity of private legal acts, unless otherwise provided.
In 2013 and 2014, the AFM strengthened the supervision of capital markets to enhance the protection of the interests of investors, inter alia, by further intensifying the supervision on market abuse and the provision of information to investors.8 In addition, the AFM has paid attention to the irregularities around the manipulation of benchmarks and the quality of financial information. The AFM is considered to be a professional, market-oriented regulator, which has expanded in size quite rapidly over the last decade.9
iii Dispute resolution
Dispute resolution in the Netherlands generally occurs through the courts with professional judges (as opposed to a jury system) or by means of arbitration.
The Judiciary (Organisation) Act of 1827 provides that there are district courts (the courts of first instance), courts of appeal and the Supreme Court. These courts deal with, inter alia, civil law, administrative law and criminal law matters. Because justice in the Netherlands is generally administered in three steps, there are three tiers of courts. A
7 Sections 1:24 and 1:25 AFS.8 AFM-Themes 2013.9 AFM Annual Report 2002 and AFM Annual Report 2013.
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case that starts before the district court may generally be appealed at the court of appeal and finally at the Supreme Court in cassation proceedings, although there are other competent courts for administrative proceedings.
Besides court proceedings, disputes can be resolved in the Netherlands by means of arbitration. An arbitral award rendered in the Netherlands is enforceable in the Netherlands with the permission of the competent Netherlands court at the request of one of the parties to the arbitration.
A notable recent development regarding arbitration is the introduction of a new institute in the Netherlands to assist judicial systems in the settlement of disputes over complex (cross-border) financial transactions: the Panel of Recognised International Market Experts in Finance (PRIME Finance). The main activities of this institute, established in January 2012, comprise (1) dispute resolution services, including arbitration, mediation and expert opinions, determinations and risk assessment; (2) judicial support and education; and (3) the compilation of a central database of international precedents and source materials. PRIME Finance promotes itself as being specifically suited for cross-border finance transactions. PRIME Finance is included as one of the seven international arbitration centres in the 2013 ISDA Arbitration Guide published by ISDA in September 2013 and allows for the arbitration seat to be in London, New York and The Hague. This is of particular importance as the arbitration law of the seat will govern the arbitral procedure.10
Furthermore, in May 2014 a legislative proposal to modernise Dutch arbitration law was adopted by the Dutch parliament. In general, the changes, which will most likely be effected as per 1 January 2015, provide parties with more options to derogate by contract from the arbitration law in the Dutch Code of Civil Procedure, resulting in more freedom for parties to shape the arbitration procedure as they wish, making it more attractive for parties to agree on instituting arbitration in the Netherlands.11
II THE YEAR IN REVIEW
Looking back at 2012 to 2013, parties active on the Dutch capital markets have been faced with a number of developments, at both European and national level. At the European level, important developments include, among others, the Prospectus Regulation, EMIR, CRA III and the Short Selling Regulation – developments that are detailed elsewhere in this publication. We have limited our discussion below to the main national developments.
i Developments affecting debt and equity offerings
The developments affecting debt and equity offerings are of a diverse nature. On the one hand developments occurred that impacted primary offerings and the admission to trading, and on the other hand amendments were made to the applicable rules for disclosures, the identification of shareholders and public takeover bids.
10 2013 ISDA Arbitration Guide, International Swaps and Derivatives Association, Inc 2013.11 Dutch Parliament, 2012–2013, 33611, No. 3; Staatsblad 2014, 200.
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Revised Prospectus Directive and cartoon disclaimerAs of 1 July 2012, the Netherlands has implemented the Revised Prospectus Directive (2010/73/EU), which amended the Prospectus Directive (2003/71/EC). Consequently offerings of securities in the Netherlands are able to benefit from the exemptions included in the Prospectus Directive, although as of 1 January 2012, certain Prospectus Directive exempt offerings are subject to a mandatory standardised cartoon disclaimer.
This mandatory cartoon disclaimer (‘wild west sign’) must be included in a prominent place on all marketing and offering materials used for certain exempt offerings to Dutch investors. Specific rules exist on the size and location of the disclaimer in offering documents and other announcements. The disclaimer consists of a graphical element and a text warning stating that the prospectus has not been approved by the AFM. The mandatory cartoon disclaimer needs to be used for all qualifying exempt offers after 31 December 2011. Offers addressed exclusively at qualified investors (within the meaning of the Prospectus Directive) are exempt from this obligation.12
Non-compliance is subject to administrative sanctions (including administrative fines and ‘naming and shaming’). Despite the fact that the introduction of the mandatory disclaimer is aimed at protecting Dutch retail investors, cross-border wholesale exempt offerings addressed at Dutch institutional investors may also need to take the disclaimer into account. Furthermore, no distinction has been made between international cross-border offerings (including Dutch investors) and Dutch domestic offerings.
In connection with the above, the AFM also issued an interpretation in July 2014 to clarify that also offering investors the opportunity to pre-subscribe for securities, such as shares or bonds, is caught by the prospectus obligation under the Prospectus Directive, unless an exemption applies. This even applies if it concerns a non-committed pre-subscription and the investors would have to confirm (in writing) that they would like to acquire the securities after approval of the prospectus (if required).
Convertible bondsIn line with ESMA’s recommendation, as of 1 January 2013, the AFM has been provided with the explicit power to declare the exemption from the prospectus obligation when admitting securities to tradings not applicable for convertible securities, in the event of abuse.13 As a consequence, if an issuer has previously issued and publicly offered a convertible bond under a Prospectus Directive exemption, in principle the exemption from the prospectus obligation applies for the admission to trading and the underlying securities can be admitted to trading on a regulated market without the need for an additional prospectus (provided the underlying shares are of the same class as shares already admitted to trading on that regulated market); however, where the issuer appears to be abusing the exemption (i.e., interposing an artificial convertible to avoid producing a prospectus) the AFM may rule that an approved prospectus should generally be made
12 Section 5:20 AFS.13 See also ESMA, Questions and Answers Prospectuses, 22nd updated version, October 2014.
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available.14 So far there are no known examples of the AFM actually having made use of this power.
Disclosure substantial holdingsFollowing developments in jurisdictions in Europe and in the US, the Dutch legislature has introduced a number of amendments to the notification obligations within the existing framework for disclosure of substantial holdings in listed companies in accordance with the Transparency Directive. First, as of 1 January 2012, a notification obligation has been introduced for holders of cash-settled instruments (i.e., financial instruments the increase in value of which depends, in whole or in part, on the increase in value of the underlying shares or related distributions, and which do not entitle the holder to acquire the underlying shares). Examples of such instruments are contracts for difference and total equity return swaps.15 In line with the Transparency Directive, the new notification requirement is triggered by the size of holdings reaching or crossing certain thresholds. Furthermore, since 1 July 2013, notification needs to be given of gross short positions in qualifying listed companies as well as of gross long positions. The gross short position notification requirements exist next to the net short notification requirement under the European Short Selling Regulation, which came into force as of 1 November 2012. Also, as of 1 July 2013 an additional lower threshold of 3 per cent has been introduced, which, inter alia, was regarded as being more in line with the applicable thresholds elsewhere in the EU.16
Identification of shareholdersAs of 1 July 2013, Dutch law enables listed companies to identify their ultimate investors. Both Dutch and non-Dutch listed companies (with the exception of collective investment funds) of which shares are admitted to trading on a Dutch regulated market or multilateral trading facility are able to benefit from this new tool. The rule enables listed companies, within 60 days before the annual or extraordinary general meeting of shareholders, to request Euroclear Netherlands, affiliated institutions, custodians of investment institutions and other intermediaries to provide the name, address, total number of shares or depositary receipts held and, if available, the e-mail addresses of the persons for whom the above-mentioned parties administer or hold the shares or depositary receipts.
Furthermore, shareholders who, either alone or together, hold at least 10 per cent of the issued capital of a listed company may request the company to initiate an identification procedure. Such a request must be made within 60 to 42 days before the general meeting is held, which is somewhat odd considering that the statutory convocation period of a general meeting is 42 days for Dutch listed companies. The listed company will be required to mention any identification request made by it on its
14 Amendment Act Financial Markets 2013, 13 December 2012.15 Dutch Parliament, 2010–2011, 32783, No. 3, p. 7.16 Act of 15 November 2012 to amend the Act on Financial Supervision, the Book Entry
Securities Act and the Civil Code.
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corporate website at the time the request is made at the latest. When doing so it must also mention the possibility of making a request for information to be passed on. To protect the privacy of small investors, the procedure can only be used to identify investors that represent 0.5 per cent or more of the issued share capital.17
Amendment of public takeover bid rulesFollowing a few high-profile public takeovers of Dutch public limited liability companies (targets), discussion was triggered on the Dutch public takeover bid rules as included in the AFS and the regulations promulgated thereunder. The Dutch public takeover bid rules are based on the Takeover Directive (2004/25/EC). These discussions led to the conclusion that the rules required change. The resulting amendments came into effect as of 1 July 2012; the key changes are set out below.
The ‘put up or shut up’ rule has been introduced to limit the period of uncertainty for parties involved in a public takeover bid, and can be invoked by the AFM at the request of the relevant target, provided such a target is harmed by uncertainty created by a potential bidder. The new rule will grant the AFM the authority to oblige the potential bidder to publicly announce, within six weeks from such request, to ‘put up’ with the bid on the target or to ‘shut up’ about the bid. If the potential bidder, at the request of the AFM, elects to ‘put up’ with the bid, such an announcement will be considered the public announcement of the (intention to make the) bid and, accordingly, will trigger the relevant time limits under the public takeover bid rules. If the potential bidder elects to ‘shut up’ about the offer (i.e., not to consider making a bid), it is no longer allowed to announce or make a public bid for the target for the subsequent six months. If the potential bidder refrains from making the requested announcement within the six-week period, it is prohibited from announcing or making a public bid for the target for nine months from the lapse of the six-week period. These prohibitions both lapse if a competing bidder launches a public takeover bid on the target. The above-mentioned ‘shut up’ rule mutatis mutandis applies if, after public announcement of the offer: (1) no actual bid is launched or (2) a bid has been launched, but it subsequently becomes clear that an offer condition will not be satisfied and the bidder publicly announces the termination of the offer.
Following another key amendment, the revised rules now allow a bidder to increase the offer price an unlimited number of times during the tender period, instead of only once as was previously the case.
Other amendments that came into force include the obligation for a target and a bidder, after the public announcement of the (intention to make a) bid, to publicly announce any transactions by themselves in securities to which the bid relates, whether in the ordinary course of trading or not; and the extension of the minimal duration of the tender period (eight weeks instead of four weeks).18
17 Dutch Parliament, 2011–2012, 32014, No. 32, p. 1.18 Decree dated 9 March 2012 to amend the Public Takeover Bids (AFS) Decree, the Decree on
Administrative Fines in the Financial Sector and the decree implementing Article 10 of the Takeover Directive.
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ii Developments affecting derivatives, securitisations and other structured products
In the area of derivatives, securitisations and structured products, the following developments have affected the market.
Intervention ActThe Act on Special Measures for Financial Corporations (the Intervention Act), which entered into force on 13 June 2012, has been introduced because the credit crisis has clearly shown that the old instruments available to the regulators were not adequate to ensure the orderly resolution of financial corporations in difficulties. Consequently, the Intervention Act provides for a number of new powers for the DCB and the Dutch Minister of Finance in respect of failing banks and insurance companies that have their seat in the Netherlands. Furthermore, it has introduced a restriction on contractual provisions that are triggered by intervening authorities (see below). The Intervention Act entered into effect with retroactive effect from 20 January 2012.
The powers of the DCB may be exercised once the district court has agreed to the DCB’s judgement that the conditions for intervention have been satisfied. These conditions are that there must be (1) signs of a dangerous development regarding the equity capital, liquidity, solvency or technical provisions of a bank or insurer, and that (2) it is reasonably foreseeable that this development will not be reversed sufficiently or in good time.19 The main new powers of the DCB enable the timely and orderly liquidation of the estate of the relevant bank or insurer. If the DCB concludes that a bank or insurer company is a problem institution, the DCB can initiate a transfer of all or part of that institution by preparing a transfer plan. The Intervention Act provides for three types of transfer that the DCB may prepare: (1) a transfer of deposit agreements (in the case of a bank only); (2) a transfer of other assets or liabilities; and (3) a transfer of shares in the problem institution.20
Furthermore, the Intervention Act assigns two special powers to the Dutch Minister of Finance: (1) the power to take immediate measures regarding a financial enterprise; and (2) the power to expropriate assets of, or securities issued by, a financial enterprise (i.e., shares, bonds and structured products). The Minister may decide to do so if there is ‘a serious and immediate threat to the stability of the financial system as result of the situation of a financial enterprise having its seat in the Netherlands’. In both cases the Minister of Finance may, if deemed necessary, deviate from statutory provisions or the articles of association. The explanatory notes give the following examples of immediate measures: the temporary suspension of shareholder voting rights, deviation from the articles of association and suspension of members of the management board or supervisory board.21 The power to expropriate is intended as a measure of last resort and may only be used if neither immediate measures nor other measures would work, would no longer work, or would be insufficient.
19 Section 3:159c, paragraph 1 AFS.20 Section 3:159c paragraph 2 AFS.21 Dutch Parliament, 2011–2012, 33059, No. 3, p. 30.
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The Intervention Act is especially relevant for counterparties of banks, insurers or their group companies with their registered seat in the Netherlands as the Act may affect their contractual arrangements. The regulators’ dealings, carried out with the aim of safeguarding the continuity of a financial institution, may, in some cases, constitute an event of default, a notification event or a cross-default clause under finance agreements entered into and instruments issued by such a financial institution, such as an ISDA Master Agreement, and could lead to early termination of those contracts or to the counterparty becoming aware of the preparation for or taking of such a measure. The explanatory notes to the Intervention Act mention that the exercise of such an acceleration and early termination rights and the notification of counterparties could affect the effectiveness of the measures set out in the Intervention Act.22 Therefore, the Intervention Act provides for the inoperability of certain contractual trigger event provisions that would diminish the new powers of DCB and the Minister of Finance. This also covers acts and events that are directly connected to such a measure or request. The Intervention Act provides that the restriction on the trigger events applies irrespective of the law governing the agreement containing such affected trigger events, albeit that this restriction may not be upheld in non-Dutch courts.23
The Intervention Act shall be amended following implementation of the Bank Recovery and Resolution Directive (2014/59/EU) which needs to be implemented by 1 January 2015.
iii Cases and dispute settlement
As stated previously, case law does not play a large role in respect of Dutch capital markets, even though its importance is gradually growing. Nonetheless, there have been a number of interesting cases in the Netherlands recently, two of which are discussed below because of their specific nature.
Nationalisation of SNS Bank – Intervention ActLandmark judgments have been rendered following the first application of the Intervention Act. At the beginning of 2013, the Dutch bank SNS Bank (the fourth-largest systemically relevant bank in the Netherlands) was nationalised on the basis of the Intervention Act and, inter alia, shares, subordinated bonds and participation certificates, and the subordinated private loans of SNS Bank and parent company SNS REAAL were expropriated by the Minister of Finance (while deciding not to bail-in senior creditors). In accordance with the Intervention Act, aggrieved parties could first appeal the nationalisation decision of the Minister of Finance with the Administrative Jurisdiction Division of the Council of State (the Administrative Court), the highest administrative court in the Netherlands. In short, the Administrative Court ruled that the Minister was entitled to expropriate the securities and subordinated private loans of
22 Dutch Parliament, 2011–2012, 33059, No. 3, p. 36.23 Dutch Parliament, 2011–2012, 33059, No. 3, p. 29. See also: V.P.G. de Serière, ‘Het
voorstel voor een interventiewet nader beschouwd, ook in vergelijking met wetgeving in ons omringende landen’, Ondernemingsrecht 2011/65.
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SNS Bank and SNS REAAL. This was based on, inter alia, the consideration that SNS Bank was unable to overcome by itself the capital shortage arising mainly from losses on its real estate portfolio, and that a bankruptcy would have major consequences for other Dutch banks and the state. In view of this situation, the Minister was entitled to conclude that the stability of the financial system faced a serious and immediate threat.24 With regard to compensation, the Intervention Act required the Minister to submit an offer for compensation to the Enterprise Chamber of the Amsterdam Court of Appeal (the Enterprise Chamber). The Minister believed that no compensation was due, stating that without nationalisation a bankruptcy would have been inevitable and that shareholders and subordinated bondholders could not expect any payment in that scenario. The Enterprise Chamber rendered its judgment on 11 July 2013. The main findings were that the Enterprise Chamber does not accept the offer of nil and that the Enterprise Chamber will order an investigation by experts to determine the value, whereby the experts should particularly consider the stock price as an indication of the market value.25 The Minister of Finance has filed an appeal with the Supreme Court against the (interim) judgment by the Enterprise Chamber.26 As a result the procedure with the Enterprise Chamber has been suspended until the Supreme Court has ruled on the appeal. On 10 October 2014, the Attorney-General of the Dutch Supreme Court advised the Supreme Court to reverse the judgment of the Enterprise Chamber and refer the case back to the Enterprise Chamber for it to re-assess whether the Minister should pay any compensation. The ruling of the Supreme Court is scheduled for January 2015.
Prospectus obligation foreclosure sale – Prospectus RulesAnother noteworthy case relates to the question of whether the prospectus obligation applies in the event of a foreclosure sale of (depositary receipts for) shares. Because the aim of the Prospectus Directive is to ensure investor protection, arguably the prospectus obligation under the Prospectus Directive does not apply to execution buyers who knowingly take a risk at a foreclosure sale for the sole purpose of making profit. In September 2012 the Dutch Supreme Court raised prejudicial questions with the European Court of Justice, inter alia, whether Section 3 Paragraph 1 of the Prospectus Directive should be interpreted to mean that the prospectus requirement set out therein in principle (i.e., apart from the exemptions set out in the Directive and exceptions for certain cases) also applies to a forced sale of securities and how the concept of ‘the total consideration of the offer’ as referred to in Section 1 Paragraph 2 Point (h) of the Prospectus Directive should be interpreted in light of the special nature of a foreclosure sale.27
24 Administrative Jurisdiction Division of the Council of State, 25 February 2013, ECLI:NL:RVS:2013:BZ2265.
25 Amsterdam Court of Appeals, 11 July 2013, ECLI:NL:GHAMS:2013:1966.26 www.bnr.nl/nieuws/beurs/889943-1308/staat-naar-hoge-raad-in-zaak-gedupeerden-sns
(viewed on 6 August 2013).27 Supreme Court 28 September 2012, RF 2013/1.
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On 17 September 2014, the European Court of Justice ruled that the obligation to publish a prospectus prior to any offer of securities to the public is not applicable to an enforced sale of securities. Besides significant practical difficulties (such as responsibility for the prospectus etc.), the European Court ruled that in an enforced sale the potential purchasers are aware that the sole purpose of the sale is to pay a debt of the holder of the securities in question and that it is carried out in the context of legal proceedings which needs to be distinguished from the situation where the publication of a prospectus is aimed at providing investors with full and precise information on the issuer, to enable them, in principle, to evaluate the risks of the transaction. In addition, the obligation to publish a prospectus prior to an enforced sale of securities is liable to impede the achievement of the objectives of the enforcement proceedings, including that of swiftly satisfying the debt owed to the creditor. Accordingly, a sale of securities in the context of enforcement proceedings does not form part of the objectives of the Prospectus Directive and, accordingly, does not fall within the scope of that directive.
iv Relevant tax law
Tax aspects are generally an important element when structuring capital markets transactions. The most important developments and trends are addressed below.
The Netherlands levies in principle dividend withholding tax at a domestic rate of 15 per cent on profit distributions in whatever name or form made by a company that is tax-resident in the Netherlands. Under the Dutch rules implementing the EU Parent-Subsidiary Directive and Dutch double taxation treaties, a reduction of or full exemption from withholding tax may be available. Furthermore, under specific Dutch rules, qualifying tax-exempt pension funds and charities resident in the EU or EEA or, as of 1 January 2012, another jurisdiction that has concluded a double taxation treaty with the Netherlands with adequate information exchange provisions, are entitled to a refund of dividend withholding tax in respect of portfolio (less than 5 per cent) shareholdings.
Profit distributions made by Dutch cooperatives to their members are in principle not subject to Dutch dividend withholding tax, although certain anti-abuse provisions apply as of 1 January 2012, which may require that the cooperative applies dividend withholding tax to its profit distributions.
The Netherlands does not levy withholding tax on payments of interest. Only if a loan or debt instrument must be requalified as equity for Dutch tax purposes pursuant to certain requirements developed in Dutch Supreme Court case law further addresses below, will interest payments be subject to Dutch dividend withholding tax. In such case, the interest is also not deductible for Dutch corporate income tax.
Under Dutch Supreme Court case law, a loan or debt instrument that has the legal form of debt may be reclassified as equity for Dutch tax purposes if the instrument is (1) a ‘sham’ loan (i.e., despite the legal form attributed to the instrument, parties had the intention to provide equity rather than debt); (2) a ‘bottomless pit’ loan (i.e., the relevant parties provided a loan even though it was clear or should reasonably have been clear from the outset that the debtor company would not be able to repay the loan); or (3) a ‘participating’ loan (i.e., the instrument is issued for more than 50 years or for an indefinite period of time, and repayment may be demanded only in the event of
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bankruptcy, moratorium or liquidation of the debtor, provides for a profit contingent interest coupon, and is subordinated to all other non-secured debts of the debtors).
Until now, neither the Dutch statutory rules nor the Dutch Supreme Court has provided a basis for requalifying equity from a legal perspective as debt for Dutch tax purposes. In fact, in two recent landmark cases, the Dutch Supreme Court held that an instrument that is considered equity from a legal perspective cannot be requalified as debt for Dutch tax purposes, irrespective of the debt-like characteristics (e.g., preference shares with fixed remuneration not related to profits having a redemption date) of the instrument in both cases.
As result of Basel III and the Capital Requirements Regulation which both took effect as from 1 January 2014, and based on above-mentioned Supreme Court case law, discussions may arise as to whether additional Tier 1 capital instruments issued as from 1 January 2014 taking the legal form of debt qualify as equity for Dutch tax purposes which would disallow a tax deduction for the interest coupon. To ensure that Dutch banks continue to operate on a level playing field with banks in other European countries in this regard, a bill has been sent to Dutch Parliament providing for additional Tier 1 capital (not being equity from a legal perspective) to be regarded as debt for Dutch tax purposes – for the issuer as well as for the holder of the instrument – with retroactive effect from 1 January 2014. From a separate bill, the 2015 Tax Plan, it follows that it is the intention to apply the same treatment to insurers in respect of (certain instruments under) Solvency II.
A non-resident corporate or individual shareholder or creditor may, inter alia, become liable to Dutch corporate or individual income tax with respect to income from the shares in, or the loan receivable from, the Dutch company if such a relevant shareholder or creditor owns a direct or indirect 5 per cent or greater equity interest in the same Dutch company as a passive investment. As of 1 January 2012, however, a non-resident corporate shareholder or creditor should not be subject to this taxation if such equity interest is not owned with the main purpose or one of the main purposes being to avoid Dutch income tax or dividend withholding tax of another person. Otherwise, a Dutch double taxation treaty will often provide protection in whole or in part against this taxation.
As from 1 January 2014, a financial service company (FSC) must declare in its annual corporate income tax return that it meets all of the substance requirements laid down in a decree, irrespective of whether such FSC wishes to apply for advance certainty with the Dutch tax authorities. An FSC for this purpose is a company whose activities in a given year consist primarily (i.e., for at least 70 per cent) of group financing and licensing activities (or similar activities such leasing). An FSC that does not meet all substance requirements must (1) indicate which requirements are not met; (2) provide all necessary information to the Dutch tax authorities to determine which of the substance requirements are met; and (3) provide an overview of all interest, royalty and similar payments for which it invokes a provision in a double taxation treaty or an EU directive. This information will be spontaneously exchanged with the other country, which may take this information into account in determining whether the conditions for the application of the double taxation treaty benefits, or the benefits provided under the EU directives, are met. Where an FSC applies for an advance pricing agreement, which is only possible if it meets the above substance requirements and runs real risks
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in connection with its activities, the Dutch authorities will still spontaneously exchange information in situations where the group to which the FSC belongs does not have any other activities in the Netherlands nor any genuine plans to engage in such activities. Finally, Dutch holding companies that wish to apply for an advance tax ruling with the Dutch tax authorities must either meet (1) the above minimum substance requirements that apply to an FSC, or (2) be part of a group which has operational activities in the Netherlands or has genuine plans to engage in these.
In 2012 and 2013 there have been a number of changes to the Dutch Corporation Tax Act with regard to the restriction of the deductibility of interest. One of the changes that took effect as of 1 January 2012 involves the introduction of a provision that, subject to a grandfathering rule and an annual franchise of €1 million, limits the deduction of interest in respect of excessive acquisition debt where the target company is included in a fiscal unity with the acquirer, or it is merged with the acquirer to set off acquisition interest expenses against the operational profits of the target company. Another change is that the Dutch ‘thin capitalisation’ rule has been abolished as of 1 January 2013; with effect from the same date a new, related provision limits the deduction of financing costs on excessive debt financing of investments in participations that qualify for the participation exemption. The latter provision is subject to certain exemptions, a grandfathering rule and an annual franchise of €750,000.
On 13 December 2013, the Netherlands and the US signed a FATCA (Foreign Account Tax Compliance Act) Intergovernmental Agreement (IGA), which contains the principal agreements between the US and the Netherlands on the implementation of FATCA in Dutch law and regulations. Among other things it is agreed that Dutch financial institutions will report the relevant information on accounts of US persons under the IGA to the Dutch tax authorities, who in turn will automatically exchange this information with the IRS. The Dutch Ministry of Finance published a draft Decree on 1 July 2014 which provides for the legal basis allowing Dutch financial institutions to report this relevant information. It is the aim of the Dutch government to have the IGA enter into force in September 2015 at the latest. The bill ratifying the IGA was sent to the Dutch parliament for approval on 3 July 2014.
Finally, the European Commission is endeavouring to introduce a financial transaction tax (FTT) on the trade in certain financial products. While initially the AFM was not in favour of the FTT, the Netherlands subsequently expressed an interest in joining, subject to certain conditions, including but not limited to a specific exemption for pension funds and no disproportionate overlap of the FTT and the aforementioned Dutch bank tax. As the current proposal regarding the FTT still does not meet these conditions, the Dutch government has announced that the Netherlands will not join at present, but it will continue to endeavour to have it amended to meet the Dutch requirements.
v Relevant insolvency law
In respect of insolvency law and restructurings, there have also been a number of developments in the Dutch legal market that are of interest for companies involved in capital market transactions. These are addressed below.
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With the legislative programme ‘Herijking Faillissementsrecht’ the Dutch legislature is aiming to strengthen the reorganisation possibilities for companies. Following the development in the Dutch legal market whereby certain district courts have been willing to appoint a ‘silent’ (i.e., not publicly disclosed) administrator for companies facing financial difficulties, as a part of this programme, in October 2013 a draft Bill on the Continuity of Companies I was published, which serves to provide the existing practice of the appointment of a ‘silent administrator’ prior to entry into an insolvency proceeding with a basis in the Dutch Bankruptcy Code. To date this rather experimental instrument has become increasingly popular and is in practice often referred to as the Dutch equivalent of the ‘pre-pack’ used in other jurisdictions. The appointment of a silent administrator provides the company (in cooperation with certain interested parties) with the opportunity, upon bankruptcy, to devise a restructuring plan with the input of the company’s prospective bankruptcy trustee, effectively achieving a ‘pre-pack’ prior to the formal appointment of the trustee in bankruptcy. Once the company, the silent administrator and other interested parties are in agreement, the company is put into bankruptcy and the trustee immediately executes the plan with the formal mandate and within the existing framework of the Dutch Bankruptcy Code. This should result in a quick implementation of the plan, which should limit any negative effects of a bankruptcy (e.g., stay of the company’s business). Currently, Dutch law lacks a legal framework for the silent administrator described above and it has only been developed as a matter practice among practitioners and certain district courts. However, the Dutch legislature has acknowledged the need for a legal framework in respect of a silent administrator and introduced a bill.
On 14 August 2014, as a second step, a draft Bill on the Continuity of Companies II was published. Influenced by the English scheme of arrangement and the US Chapter 11, the possibility is introduced in the Netherlands for companies to offer a composition outside an insolvency proceeding. This draft legislation is in line with the recommendation made by the European Commission on 12 March 2014, entailing that Member States should introduce possibilities in their national legislation for companies to offer such a composition outside insolvency. The draft legislation provides that the company itself can offer a composition to restructure its debts outside an insolvency proceeding. Creditors can also offer a composition to co-creditors and shareholders of its debtor. Background is that creditors may be willing to save the company via a composition, but management may not be willing to cooperate as a result of pressure put on them by shareholders. A creditor may, however, only offer a composition if he (1) has ascertained that the company is heading for a bankruptcy and (2) has provided the company with the opportunity to offer a composition itself. The aim of this last requirement is to prevent that a creditor offers a composition out of the blue resulting in turmoil and negatively effecting the ordinary business of the company. The composition can be offered to (a number of ) creditors and shareholders. The starting point is that the offeror can design the composition as he deems fit. An interesting element in the proposal is that also claims of surety’s, joint and severally liable debtors and guarantee providers can be amended by the composition. Currently the Dutch Bankruptcy Code does not provide a possibility thereto. In practice this will lead to not only the company being subject thereto, but also group companies. The expectation is that the draft legislation will be implemented in the Dutch Bankruptcy Code at the earliest at the beginning of 2016.
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III OUTLOOK AND CONCLUSIONS
The outlook for the capital markets in the Netherlands is positive. The Netherlands’ track record of robust public finances and status as a safe haven are attributes of the euro area (EA) AAA countries.28 However, similar to that of surrounding countries, the economy and, hence, companies in the Netherlands face a number of challenges; solutions may be offered by or on the capital markets.
Despite the lingering effects of the crisis, we see a growing trend of companies considering obtaining a listing of their shares, albeit not necessarily on the Dutch regulated markets. Over the past decade, we have witnessed several cross-border initial public offerings making use of Dutch public companies and this trend is expected to continue, even though the Dutch regulated market is regaining its appeal. The typical cross-border IPO structure provides various advantages for tax optimisation and investment protection.
As of October 2012, Dutch corporate law has materially changed by introducing the FlexBV, a private limited liability company with more flexible characteristics. In addition to the expedited and simplified incorporation process, many of the former restrictions and formalities in respect of voting rights, distributions, capital contributions, issuances, repurchases of shares, capital reductions and financial assistance no longer apply. Although there are no precedents yet, a listing of shares in the capital of a FlexBV seems to be a real possibility, thereby providing even greater flexibility in structuring while providing the benefits of the ruling practice relating to tax matters.
It is anticipated that with regard to debt markets there will be a (further) shift from bank debt to capital market debt in the Netherlands. The roots for this can be found in the increased difficulty in obtaining bank funding due to financial regulatory constraints for banks (such as Basel III and CRR/CRD IV), and of continuing difficulty in creating (international) banking syndicates. Consequently, in line with the figures touched upon in the introduction, bond financing is increasingly becoming a source of finance and Dutch companies expect further growth of the Dutch bond markets. In this regard, we foresee a greater role for institutional investors.
28 IMF Country Report No. 13/115, Kingdom of the Netherlands – Netherlands, May 2013, p. 4.
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Chapter 21
NEW ZEALAND
Deemple Budhia and John-Paul Rice1
I INTRODUCTION
New Zealand’s capital markets are in a period of regulatory transition. The previous securities laws have been replaced by the omnibus Financial Markets Conduct Act 2013 (the FMC Act). With certain limited exceptions, the FMC Act came fully into force on 1 December 2014 and a two-year transition period for the FMC Act will apply. Offers of securities can now be made under the new FMC Act and a number of issuers in the New Zealand market have completed offers using the new regime.
i Structure and regulation
New Zealand has a legal system based on English common law. New Zealand’s laws include legislation made by Parliament, rules made by local councils and the common law, which is developed by judges. Legislation made by Parliament overrides the common law. The court system is a hierarchy of courts that includes two appeal courts (the highest of which is the Supreme Court), whose decisions are binding on courts below them in the hierarchy.
Offers of financial products in New Zealand are regulated by the FMC Act and regulations made under the FMC Act (Regulations). There is a two-year transitional period which ends on 1 December 2016 during which, in summary, offers by continuous issues can continue to be made under the Securities Act 1978 (the Securities Act). For all other issues, the cut-off date for making offers under the Securities Act is 1 December 2015. Thereafter, the FMCA regime must be used. The FMC Act and the Regulations:a impose fair dealing obligations on conduct in both the retail and wholesale
financial markets;
1 Deemple Budhia and John-Paul Rice are partners at Russell McVeagh. The authors would like to thank and gratefully acknowledge the assistance of Lucy Becke and Mailing Young.
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b set out new disclosure requirements for offers of financial products;c introduce a new regime of exclusions and wholesale investor categories in
connection with the disclosure requirements;d reform the law relating to governance of financial products; ande introduce a new licensing regime.
A summary of the transitional regime as well as the new FMC Act provisions applicable to offers of financial products in New Zealand is provided in this chapter.
Transitional regimeThe Securities Act was repealed and replaced by the FMC Act on 1 December 2014. Prior to the FMC Act, the Securities Act regulated the offering of securities to the public in New Zealand in the primary and secondary markets. Under the Securities Act, offers of securities to the public must not be made unless the offer is accompanied by a registered prospectus, investment statement or an authorised advertisement. The type of security offered influenced whether an issuer would need to comply with other aspects of the Securities Act. For example, public offers of debt securities also required a licensed trustee and trust deed.
There is a two-year transitional period during which issuers can continue to make some offers of securities under the Securities Act. In this period:a offers of continuous issue securities can continue to be made under the
Securities Act regime provided that the prospectus is registered on or before 30 November 2016;
b offers for which no registered prospectus was required (including by way of an exemption under the Securities Act) can continue to be made under the Securities Act regime provided that the securities are offered and allotted before 30 November 2016; and
c other issuers can continue to make one-off offers under the Securities Act regime provided that the prospectus is registered on or before 30 November 2015.
Issuers can elect to offer securities under the FMC Act prior to 1 December 2015 or 1 December 2016.
Issuers of securities previously offered and allotted under the Securities Act have until 1 December 2016 to transition those existing securities to the FMC Act. Issuers must give notice to the security holders of the transition and will become subject to (among others) ongoing disclosure, governance and financial reporting requirements under the FMC Act in relation to the securities once transitioned.
FMC ActFinancial productsUnder the FMC Act, an offer of financial products for issue requires disclosure to investors unless an exclusion applies to all persons to whom the offer is made. Certain specified offers of financial products for sale will also require disclosure to investors.
There are four categories of financial products: debt securities, equity securities, managed investment products and derivatives, each of which is separately defined. A
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managed investment product refers to an interest in a managed investment scheme, which is broadly defined to include any scheme:a the purpose or effect of which is to enable participating investors to contribute
money to the scheme to acquire an interest in the scheme; b where the interests are rights to participate in or receive financial benefits produced
principally by the efforts of others; andc where participating investors do not have day-to-day control over the operation
of the scheme.
The definition of derivatives is wide and explicitly includes transactions that are commonly referred to in New Zealand or overseas financial markets as futures contracts, forwards, options (other than options to acquire by way of issue equity securities, debt securities or management investment products), swap agreements, contracts for difference, margin contracts, rolling spot contracts, caps, collars, floors and spreads.
The Financial Markets Authority (FMA) has the power to declare that a security that would not otherwise be a financial product is a financial product of a particular kind.
Regulated offersAn offer of financial products that requires disclosure is a ‘regulated offer’. An offer that is not a regulated offer will still be subject to the general fair dealing provisions in the FMC Act.
The disclosure required in relation to each financial product is set out in Regulations and is tailored according to the characteristics of the particular product being offered.
Other legislation and legislative bodiesOther key statues regulating New Zealand’s financial sector include the Financial Reporting Act 2013, the Companies Act 1993 (the Companies Act), the Financial Service Providers (Registration and Dispute Resolution) Act 2008 (FSPA), the Financial Markets Authority Act 2011, the Financial Advisers Act 2008 (FAA), the Reserve Bank of New Zealand Act 1989 (the RBNZ Act), the Insurance (Prudential Supervision) Act 2010 (the IPS Act), the Non-bank Deposit Takers Act 2013 (the NBDT Act), the Financial Markets Supervisors Act 2011 and the Anti-Money Laundering and Countering Financing of Terrorism Act 2009 (AMLA).
The principal regulatory bodies for New Zealand’s financial sector are:a the FMA, whose principal objective is to promote and facilitate the development
of fair, efficient and transparent financial markets. The FMA’s functions include monitoring compliance with and investigating conduct that constitutes or may constitute breaches of financial markets legislation, and licensing and supervising authorised financial advisers, qualifying financial entities, security trustees and statutory supervisors; and
b the Reserve Bank of New Zealand (Reserve Bank), which is responsible for the prudential regulation of banks, non-bank deposit takers and insurance providers.
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Under the FMC Act, a person making a regulated offer of debt securities is required to appoint a licensed supervisor and enter into a trust deed with that supervisor, and issuers of regulated managed investment products under the FMC Act are required to register the management investment scheme and appoint a licensed supervisor and licensed manager and enter into a governing document. The licensing regime in respect of supervisors is set out in the Financial Markets Supervisors Act 2011, which includes compliance and reporting obligations for securities trustees and statutory supervisors and permits the FMA to remove a supervisor in certain circumstances.
ii Authorisation and licensing
There are no direct government controls on the issuing of securities in New Zealand, either by New Zealand or foreign companies. However, market participants may need to obtain registrations or authorisations when participating in New Zealand’s capital markets, depending on the type of activity an entity is proposing to conduct in New Zealand.
Overseas company registrationThe Companies Act requires any company incorporated outside New Zealand that is ‘carrying on business’ in New Zealand to register as an overseas company. Whether a particular activity or activities constitute ‘carrying on business’ will be a question of fact and degree. Registration as an overseas company in New Zealand is a relatively simple process although there are ongoing compliance obligations for overseas companies, including the requirement to lodge annual returns with the Registrar of Companies and (for entities of a certain size) prepare and file financial statements.
Financial service provider registrationSubject to certain limited exceptions, the FSPA requires any person who carries on the business of providing a ‘financial service’ and is ordinarily resident in New Zealand, has a place of business in New Zealand or is required to be a licensed provider under a licensing enactment (which includes registered banks, authorised financial advisers, certain licensed supervisors and others) to be registered for that service on the Financial Service Providers Register (FSP Register). The FSP Register is a public register, and financial service providers that provide financial services to retail clients must also join an approved dispute resolution scheme, subject to certain limited exceptions.
The definition of financial services is broad and financial service providers would include: a financial advisers, brokers, licensed non-bank deposit takers and registered banks;b any person participating in a regulated offer as the issuer or offeror of the financial
products;c any person acting in the capacity as an issuer, supervisor or as an investment
manager in respect of a regulated product; d any person acting as a custodian or offering a licensed market service;e operators of financial products markets; andf any person that trades financial products or foreign exchange on behalf of another
person.
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Most participants in the financial services industry in New Zealand will be required to register under the FSPA. Registration is a simple process and registered entities are required to pay annual fees depending on the nature of the financial services being provided.
Financial advisersA person who provides financial adviser services (or broking services) in the ordinary course of their business to clients in New Zealand is required to comply with certain disclosure, conduct and registration requirements under the FAA. The requirements apply regardless of where the person providing the financial adviser service is resident, is incorporated, or carries on business.
A person provides a financial adviser service if they give financial advice, provide an investment planning service or provide a discretionary investment management service. Financial advice is given where a person makes a recommendation or gives an opinion in relation to acquiring or disposing of a financial product (which would include equity securities and debt securities).
Financial adviser services exclude, inter alia:a any form of communication made by or on behalf of an issuer or offeror of
financial products that is not a regulated offer due to a relevant exclusion (which includes offers to wholesale investors);
b providing or making available a product disclosure statement, other limited disclosure document or information from a register entry or advertisement under the FMC Act; and
c financial adviser services covered by a market services licence for discretionary investment management services.
The FAA imposes different requirements depending on the type of products being advised on, the intended audience (whether wholesale or retail) and the type of advice (personalised or generic class advice). For example, the requirements for a financial adviser providing personalised financial advice to a retail client will be more onerous than the requirements for a provider of class advice to wholesale clients.
Bank or insurance company registrationRegistration as a New Zealand registered bank is not required to provide banking or financial services, or to offer or sell financial products in New Zealand. However, pursuant to the RBNZ Act no person can ‘carry on any activity’ (directly or indirectly) in New Zealand using a name or title that includes a ‘restricted word’. The restricted words are ‘bank’, ‘banker’ or ‘banking’ or any derivative thereof (and includes a translation of those words into another language). The IPS Act contains a similar prohibition in relation to the use of ‘insurance’, ‘assurance’, ‘underwriter’ and ‘reinsurance’ (and terms with the same or a similar meaning). The prohibitions do not apply under the RBNZ Act where the entity is a registered bank or under the IPS Act where the entity carries on insurance business in New Zealand (which would require the entity to hold an insurance business licence). If a potential issuer wishes to use a restricted word in its name but not register as a bank or obtain an insurance business licence, an application can be made to the Reserve Bank seeking an authorisation or exemption.
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Non-bank deposit takersNon-bank deposit takers (NBDTs) are persons who make a regulated offer of debt securities to the public in New Zealand and carry on the business of borrowing and lending money, or providing financial services, or both. The definition is broad and captures entities beyond traditional finance companies, at which the regime was originally targeted. The NBDT Act requires NBDTs to be licensed by the Reserve Bank. NBDTs are subject to prudential supervision by the Reserve Bank with the relevant supervisor (trustee) tasked with monitoring an NBDT’s compliance with the relevant prudential requirements.
iii Offers of financial products
New Zealand has a disclosure-based approach to the offer of financial products to the public. An offer of financial products for issue will require full disclosure to investors under Part 3 of the FMC Act, unless an exclusion applies (and limited disclosure is required for offers made in reliance on some FMC Act exclusions).
In addition, certain offers of financial products for sale (secondary sales) also require disclosure. For example, if financial products are issued (but not (among other things) under a regulated offer) with a view to the original holder selling the products and the offer for sale is made within 12 months of the original issue date, that secondary offer will require disclosure.
The FMC Act will apply to any offer of financial products in New Zealand regardless of where the resulting issue or transfer occurs or where the issuer is resident, incorporated or carries on business.
For a regulated offer of financial products, a product disclosure statement (PDS) must be prepared, and certain information relating to the offer must be contained in a register entry for the offer, which must be maintained on a publicly available register. The PDS must be lodged with the Registrar of Financial Service Providers and the register entry must contain all material information not contained in the PDS. ‘Material information’ means information that a reasonable person would expect to, or that would be likely to, influence persons who commonly invest in financial products in deciding whether to acquire the financial products on offer and is specific to the particular issuer or the particular financial product. Investors to whom disclosure is required must (subject to certain exceptions) be given the PDS before an application to acquire the relevant financial products under a regulated offer is accepted.
The Regulations set out detailed requirements for the timing, form and content of initial and ongoing disclosure for financial products, including limited disclosure for products offered under certain FMC Act exclusions. The requirements for a PDS are prescriptive, and include prescribed statements and page or word limits. The Regulations impose different disclosure requirements for different types of financial products. The PDS must contain the information prescribed by the Regulations.
The FMC Act includes an exclusion for offers to ‘wholesale investors’, which includes ‘investment businesses’, people who meet specified investment activity criteria, ‘large’ entities (those with net assets of at least NZ$5 million or consolidated turnover over NZ$5 million in each of the two most recently completed financial years), ‘government agencies’, ‘eligible investors’, persons paying a minimum of NZ$750,000 for the financial products on offer, persons acquiring derivatives with a minimum notional
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value of NZ$5 million and bona fide underwriters or sub-underwriters. Even where an exclusion applies, certain disclosure requirements may still apply.
LiabilityIf a PDS, any application form that accompanies that PDS or the register entry relating to a financial product contains a statement that is false or misleading or likely to mislead, and such matter is materially adverse from the point of view of an investor, there is potential civil liability under the FMC Act. Where a person acquires a financial product that declines in value after a misleading statement is made, that person is treated as having suffered loss or damage because of that misleading statement unless it is proved that the decline in value was caused by a matter other than the relevant statement. This reverses the usual onus of proof and means that investors will no longer need to show the link between the misleading statement and the loss they have suffered to obtain an order for compensation.
Every director of the offeror, licensee, authorised body or entity at the time of the contravention will be treated as also having contravened such provision of the FMC Act and can be ordered to pay a pecuniary penalty or compensation. A number of defences are available to that director, including if he or she can prove that he or she took all reasonable and proper steps to ensure that the entity complied with the relevant provision.
Criminal liability can also attach if the offeror knows that, or is reckless as to whether, the statement is false or misleading or likely to mislead. In such circumstances, a director of an offeror may also commit an offence if the director knows or is reckless as to whether, the statement is false or misleading or likely to mislead.
iv Some other features of New Zealand’s capital markets
Regulation of derivativesOffers of derivatives are regulated by the FMC Act and issuers are required to prepare and lodge PDSs in respect of regulated offers of derivative products.
‘Derivatives issuers’ (meaning a person that is in the business of entering into derivatives) who make regulated offers of derivatives are required to hold a market services licence (unless an exemption applies). In addition to the exclusions discussed above, there are some exclusions under the FMC Act that apply specifically to offers of derivatives, including offers of derivatives made by a person who is not a ‘derivatives issuer’, offers of quoted derivatives on a licensed market, offers of derivatives approved for trading on a prescribed overseas market and offers of currency forwards by registered banks (or their subsidiaries) where settlement is within 12 months of issue.
If a ‘derivatives issuer’ makes a regulated offer of derivatives, they will also be required to ensure that a client agreement is in place with the counterparty prior to the issue of the derivative and provide confirmations to the counterparty.
Exchanges and marketsFMC ActA person who wishes to operate a financial product market in New Zealand will be required to obtain a licence to operate that market from the FMA or the responsible Minister under the FMC Act. NZX Limited (NZX) is currently the only licensed
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market operator in New Zealand and is registered to operate the NZX Main Board (the NZSX, the NZX’s original equities market), the NZX Debt Market (NZDX), the NZX Alternative Market (NZAX, for small to medium-sized businesses) and the newly launched NXT, which is intended to replace the current NZAX. The market licence provisions under the FMCA is among the small handful of provisions that are not yet in force but are expected to become effective on 1 December 2015.
NZXListed issuers whose securities are quoted on one of NZX’s registered markets will be subject to the NZX Listing Rules applicable to that market and the FMC Act. The Listing Rules set out a number of obligations for issuers, including obligations to prepare and deliver to NZX annual and half-yearly reports that contain certain prescribed information, and make a preliminary announcement to the market before the release of each annual and half-yearly report. Listed entities must also describe their corporate governance practices in detail in their annual reports.
In addition, listed entities must comply with the continuous disclosure requirements of the NZX Listing Rules and disclose price-sensitive information to the market (by means of an announcement to NZX) immediately once they become aware of the information. There are limited exceptions to this disclosure obligation.
Listed entities must also in certain circumstances release material information to the market to prevent the development or subsistence of a market for its securities based on false or misleading information.
ClearingThere are two principal settlement and clearing systems operating in the New Zealand financial markets: the NZClear system currently operated by the Reserve Bank (formerly known as Austraclear) and the clearing and settlement system operated by New Zealand Clearing and Depository Corporation Limited (a wholly-owned subsidiary of NZX) (NZCDC). NZCDC clears and settles all trades conducted on NZX’s markets.
NZClear and the NZCDC have each been declared to be a designated settlement system for the purposes of the RBNZ Act. As a result, those systems are subject to statutory protections in relation to, among other things, the enforceability of the rules, the finality of settlements and the validity of netting in respect of those systems.
New Zealand is not a member of the G20 and has not introduced legislation to require standardised over-the-counter derivatives contracts to be cleared through central counterparties.
Corporate governanceDirectors’ duties in New Zealand are prescribed by legislation, in particular the Companies Act and the common law. As fiduciaries, directors owe duties to act honestly, exercise care and diligence, act in good faith in the best interests of the company and for a proper purpose, not to improperly use their position or company information, and to disclose their material personal interests and avoid conflicts of interest. Directors have duties regarding financial and other reporting and disclosure, solvency matters and reckless trading.
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The Companies Act permits directors to rely on information or advice supplied by employees, professional advisers or experts and other directors or directors’ committees provided that the director acts in good faith, makes proper enquiries where warranted by the circumstances, has no knowledge that such reliance is unwarranted and has reasonable grounds to believe that his or her reliance on another person was warranted. Breaches of certain directors’ duties under the Companies Act attract criminal liability.
At least one director of a company incorporated in New Zealand must live in New Zealand, or in an ‘enforcement country’ where that director is also a director of a company registered (not as an overseas company) in that enforcement country. Similar requirements apply to limited partnerships under the Limited Partnerships Act 2008. At present Australia is the only country prescribed as an ‘enforcement country’.
Anti-money launderingNew Zealand’s anti-money laundering regime is set out in the AMLA.
The AMLA applies to ‘reporting entities’. A reporting entity means a ‘financial institution’ (a wide definition, which includes a person who participates in securities issues and provides financial services related to those issues in the ordinary course of business), a casino and any other person or class of persons deemed to be a reporting entity under the regulations or any other enactment.
The AMLA includes customer due diligence, reporting and record-keeping requirements, and in addition requires financial institutions to develop and maintain a risk assessment and a risk-based AML/CFT programme. The AMLA provides for external supervision of entities subject to the Act to monitor the level of risk of money laundering and the financing of terrorism involved in an entity’s activities, and to ensure programmes are appropriately tailored to address those risks.
II THE YEAR IN REVIEW
i Issuances under the FMC Act
Approaching the end of the first year since the FMCA was introduced, the transition to the new regime has been relatively smooth. A number of debt and equity issuers have opted to issue under the new regime (notwithstanding the option during this first year to issue under the Securities Act), pursuant to a full regulated offer or pursuant to one of the exclusions. One new exclusion introduced by the FMCA – the quoted financial product (QFP) exclusion – has been used by a number of issuers already and will in our view be a valuable and much utilised tool for listed issuers.
The QFP exclusion allows issuers to offer equity securities, debt securities or managed investment products of the same class as financial products that are quoted on an appropriate licensed market without a PDS. The issuer must issue a ‘cleansing notice’ to the market (which includes a confirmation that the issuer is complying with its continuous disclosure and financial reporting obligations), as well as a document setting out the terms and conditions applicable to the financial product (commonly a short term sheet).
ii Crowdfunding platforms
The crowdfunding rules under the FMC Act are designed to make it simpler for small companies to raise money. Companies are not required to prepare and lodge a PDS to
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offer shares if they use a licensed crowdfunding service provider. The FMA has issued a number of crowdfunding licences under the FMC Act.
iii Markets services licences under the FMC Act have been issued
The FMC Act introduced a new ‘market services licence’ regime. The FMA has issued market services licences to derivatives issuers, managers of managed investment schemes, independent trustees, and providers of discretionary managed investment services.
iv FMA issues first stop order under the FMC Act
The FMC Act gives the FMA wider powers to take preventative action in relation to financial products and services. For example, the FMA has the power to issue stop orders prohibiting, among other things, offers of financial products, distribution of a disclosure document or accepting applications for financial products while the stop order is in place. The FMA can issue stop orders pre-emptively if it is satisfied that the FMC Act is likely to be contravened. The FMA issued the first stop order under the FMC Act on 27 July 2015.
III OUTLOOK AND CONCLUSIONS
While most of the FMC Act provisions have now come into force, there is a raft of outstanding detail to be finalised through the Regulations, including provisions that:a set out the bespoke disclosure requirements for offers of convertible products;b provide appropriate disclosure obligations for a range of managed fund situations
that were not addressed in the initial regulations; andc introduce short-form disclosure (a simplified PDS) for offers of shares or other
products that rank equally or in priority to existing quoted financial products.
As the FMC Act and Regulations are implemented by the market, some unintended consequences are being identified. Remedial changes through the Regulations or via class exemptions are being worked through and we expect that process to continue into next year.
A review of New Zealand’s financial adviser and financial service provider regulation under the FAA and FSPA is currently under way, with recommendations to the relevant minister expected by 1 July 2016. The review is considering, among other things, whether consumers understand how advisers are regulated and whether regulatory requirements and compliance costs have unduly reduced access to financial advice.
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Chapter 22
NIGERIA
Fred Onuobia and Bibitayo Mimiko1
I INTRODUCTION
i The Investments and Securities Act, 2007
The Nigerian capital market is regulated by a panoply of laws, chief among them being the Investments and Securities Act, 2007 (ISA). Divided into 18 parts, the ISA makes provision for the establishment of the Securities Exchange Commission (SEC or the Commission). The SEC is the apex regulatory organ of the Nigerian capital market. The SEC, among others, has the power to make rules and regulations for the market;2 register and regulate securities exchanges and other self-regulatory organisations; register and regulate the issuance of securities;3 intervene in the management and control of failing capital market operators;4 and in appropriate circumstances, impose penalties and
1 Fred Onuobia is a managing partner and Bibitayo Mimiko is an associate at G Elias & Co.2 The SEC has issued the SEC Rules, 2013 or the Rules. A copy can be downloaded at www.
sec.gov.ng/files/SEC%20Consolidated%20(JUNE2013)%20SIGNED(WEBSITE)%20(1).pdf.
3 The ISA defines ‘securities’ as:(a) debentures, stocks or bonds issued or proposed to be issued by a government; (b) debentures, stocks, shares, bonds or notes issued or proposed to be issued by a body corporate; (c) any right or option in respect of any such debentures, stocks, shares, bonds, notes; or (d) commodities futures, contracts, options and other derivatives, and the term securities in this Act includes those securities in the category of the securities listed in (a) – (d) above which may be transferred by means of any electronic mode approved by the Commission and which may be deposited, kept or stored with any licensed depository or custodian company as provided under this Act.
4 ‘Capital market operators’ is defined in the ISA as ‘any persons (individual or corporate) duly registered by the Commission to perform specific functions in the capital market’ and covers brokers, underwriters, solicitors and their respective firms.
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levies on defaulting capital market operators. Consequently, the Securities and Exchange Commission Rules and Regulation, 2013 made by the SEC pursuant to its powers is considered as the market’s bible. The SEC periodically releases new rules to complement the SEC Rules.
Two other key bodies established by the ISA are the Administrative Proceedings Committee (APC) and the Investments and Securities Tribunal (IST). The APC is a committee of the SEC established as a quasi-judicial fact-finding body. The APC essentially provides the avenue for market operators, against whom complaints have been made by investors and the SEC alike, to be heard prior to the determination on the complaint by the SEC.5 It goes without saying that a decision of the APC will be regarded as a decision of the SEC and an appeal therefore can be made to the IST.
The IST6 is established under the ISA to hear and determine any question of law or dispute involving:a a decision or determination of the Commission in the operation and application
of this Act, and in particular, relating to any dispute: (i) between capital market operators; (ii) between capital market operators and their clients; (iii) between an investor and a securities exchange or capital trade point or clearing and settlement agency; or (iv) between capital market operators and self-regulatory organisations;
b the Commission and a self-regulatory organisation;c a capital market operator and the Commission;d an investor and the Commission;e an issuer of securities and the Commission; andf disputes arising from the administration, management and operation of collective
investment schemes.
Decisions of the IST are to be enforced in the same manner as that of the Federal High Court (FHC) and appeals arising from decisions of the IST lie at the first instance to the Court of Appeal.
ii The Companies and Allied Matters Act, Cap C20, LFN 2004 (CAMA)
The CAMA is secondary in its applicability to the capital market. It governs virtually all aspects of the incorporation and operations of companies and other corporate bodies requiring incorporation or registration with the Corporate Affairs Commission (CAC).7 To the extent that these companies and corporate bodies are participants in Nigeria’s
5 By an SEC circular dated 16 February 2015 on complaints management, most complaints are now to be initially lodged and resolved at trade group level or by self-regulatory organisations, such as the Nigerian Stock Exchange. Complaints not resolved at this level are to be referred to the SEC. Consequently, market operators must register as members of their respective SEC-recognised trade groups. The objective of this arrangement is to secure speedier resolutions of complaints.
6 See ISA Section 274.7 The CAC is established by the CAMA Section 1. It is Nigeria’s equivalent of the UK
Companies House.
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capital market, CAMA provisions are significant and apply also to the capital market. For instance, Parts VI and VII of the CAMA make provisions on the nature and types of shares and bonds to be issued by companies. These securities end up being offered and traded in the Nigerian capital market.
iii Other relevant statutes
Undoubtedly, other sector-specific legislations have a certain degree of relevance to the capital market. Arguably, the most important of such legislations are those relating to banks8 (Banks and Other Financial Institutions Act, 2005 or BOFIA); pension fund administrators9 (Pensions Reform Act, 2014) and the Central Bank of Nigeria10 (Central Bank of Nigeria (Establishment) Act Cap C4, LFN, 2004).
iv Regulation of foreign investment
There is no difference in the regulatory treatment of foreign investment in the capital market in relation to the regulation of local investment in the market. The Central Bank of Nigeria (CBN) regulates dealings in foreign exchange in the Nigerian economy through legislation and directives. Chief among them is the Foreign Exchange (Monitoring and Miscellaneous Provisions) Act, Cap F34, LFN (the FEMM Act).11
There are no regulatory restrictions to foreign investment in the market. Pursuant to Section 26 of the FEMM Act:
A person, whether – (a) resident in or outside Nigeria; or (b) a citizen of Nigeria or not, may deal in, invest in, acquire or dispose of, create or transfer any interest in securities and other money market instruments whether denominated in foreign currencies in Nigeria or not. A person may invest in securities traded on the Nigerian capital market or by private placement in Nigeria.
Nevertheless, a foreign investor seeking to invest in the market must ensure that any foreign currency to be invested in the market is imported into Nigeria through
8 Banks are significant issuers of securities traded in the Nigerian capital market.9 Pension fund administrators are influential investors in the market. Regulations made
pursuant to the Pension Reform Act on assets that qualify for investments by pension fund administrators invariably dictate products that make their way to the market.
10 The Central Bank of Nigeria regulates banks and dealings in foreign exchange in the Nigerian economy.
11 The Foreign Exchange Manual issued by the CBN is in furtherance of the regulatory duty imposed by the FEMM Act. The CBN also regularly issues circulars on the regulation of the use of foreign exchange in the economy. For example, the CBN, by a Circular on the ‘Inclusion of some Imported Goods and Services on the List of Items not valid for Foreign Exchange in the Nigerian Foreign Exchange Markets’ dated 23 June 2015, barred access to the foreign exchange market for the purchase of foreign exchange for investment in Eurobonds, foreign currency bonds and shares.
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an authorised dealer.12 In so doing, the authorised dealer issues a certificate of capital importation (CCI) to the investor. The CCI guarantees ‘unconditional transferability of funds, through an authorised dealer in freely convertible currency, relating to dividends or profits (net of taxes) attributable to the investment’.13 Similarly, foreign exchange purchased from the Nigerian Autonomous Foreign Exchange Market14 can be freely repatriated from Nigeria without any further approval.
The SEC Rules also require portfolio investors to appoint a custodian and to file a copy of the letter of appointment of the custodian with the SEC within 10 working days of making such an appointment.15
Nigerian law requires foreign companies seeking to operate in the Nigerian capital market to first incorporate and register a Nigerian company with the CAC.16 Subsequently, such companies must register with and obtain the relevant licences or authorisations from the SEC before they can commence operations as capital market operators in the market.17 Similarly, foreign companies can only apply and be registered as dealing members of the Nigerian Stock Exchange (NSE) upon registering and incorporating a separate Nigerian entity with the CAC.
v Cross-border securities transactions
Much like foreign investments, foreign issuers can issue, sell or offer for sale or subscription securities to the public through the Nigerian capital market. Such securities may be denominated in naira or any convertible foreign currency.18 The SEC Rules require foreign issuers to file an application for registration of their securities with the SEC and such applications must be accompanied by a draft prospectus.19
12 Authorised dealers are banks licensed under BOFIA, and such other specialised banks issued with licences to deal in foreign exchange. FEMM Act Section 41.
13 FEMM Act Section 15(4).14 Defined in the FEMM Act as ‘a market which the authorised dealers, authorised buyers,
foreign exchange end-users and the Central Bank are participants and may include other participants that the Government of the Federation may, from time to time, recognise’.
15 Rule 409 SEC Rules.16 CAMA Section 54 makes it a general requirement for all foreign companies intent on
carrying on business in any sector of the Nigerian economy to obtain incorporation as a separate Nigerian entity before commencing business. The CAC certificate of incorporation issued to a foreign company pursuant to this provision is one of the documents required for registration with the SEC as a market operator.
17 Rule 407 SEC Rules. Other registration requirements include a certified true copy of the certificate of incorporation in the company’s country of domicile; proof of registration with the securities regulator or any other regulatory authority in the foreign entity’s country of domicile; and the shareholding structure of the foreign company.
18 Rule 414 SEC Rules.19 Extensive provisions are made for the content of the draft prospectus in Rule 419 of the SEC
Rules. The registration obligations placed on foreign issuers are the same as those placed on
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Foreign issuers may, at the discretion of the SEC, be exempted from certain obligations in registering their securities under the SEC Rules where: (1) the issuer’s country is a member of the International Organization of Securities Commissions; or (2) where there is a reciprocal agreement between the issuer’s country and Nigeria. Thus, unlike Nigerian public companies which are mandated to register their securities with the SEC, foreign issuers enjoy some exemptions from some registration obligations.
vi The court system
Nigeria operates a common law system but with a federal written Constitution20 as the basic law. The Supreme Court of Nigeria sits atop the hierarchy of courts, with the Court of Appeal on the next rung. The High Courts and National Industrial Court are next in tow. These courts are referred to as superior courts of record. Of importance to the market is the FHC, with divisions in all 36 states of the federation of Nigeria and the Federal Capital Territory, Abuja.
The FHC has exclusive jurisdiction over matters: (1) ‘arising from the operation of the Companies and Allied Matters Act or any other enactment replacing that Act or regulating the operation of companies incorporated under the Companies and Allied Matters Act’; (2) ‘the administration or the management and control of the federal government or any of its agencies’; and (3) ‘any action or proceeding for a declaration or injunction affecting the validity of any executive or administrative action or decision by the federal government or any of its agencies’.21 Most operators in the capital market are limited liability companies incorporated under and regulated by the CAMA. It is arguable that the FHC has jurisdiction over matters that touch on the operation of these ‘CAMA-companies’, even if such matters occur in the capital market. Points (2) and (3) above are also relevant to capital market disputes because the SEC, the apex regulatory body of the capital market, is an agency of the federal government of Nigeria.22
Nigerian public companies, trust companies, collective investment schemes, governments and government agencies and supranational bodies.
20 The Constitution of the Federal Republic of Nigeria, 1999 (as amended).21 Section 251 of the Constitution.22 There is often an overlap of jurisdiction between the FHC and IST over capital market
disputes and there have been no definitive pronouncements or general guiding principles laid down by the Supreme Court on this issue. Cases have therefore been determined on a case-by-case basis, creating inconsistency, uncertainty and the opportunity to forum shop.
For example, in Ajayi v. SEC [2009] 13 NWLR Pt. 1157, the decision of the FHC declining jurisdiction was upheld by the Court of Appeal. The case was for judicial review of a decision of the SEC through its APC. The FHC declining jurisdiction stated that the ISA ‘rested the adjudication arising from the operation of the ISA within the purview of the IST’. That jurisdiction of the IST is not of a concurrent application with the FHC.’ (Per Peter-Odili, J.C.A. at p. 26). Another panel of the Court of Appeal in Christopher Okeke v. SEC (2013) LPELR-20355 (CA, however, refused to follow Ajayi v. SEC (supra) and decided that the FHC had jurisdiction instead. The Court in its ruling stated that the jurisdiction of the FHC granted by the Constitution ‘cannot be whittled down or taken away by an ordinary
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vii The Nigerian Stock Exchange
A very significant player in the Nigerian capital market is the NSE.23 Established in the wake of Nigeria’s independence from British colonial rule, the NSE now operates an automated trading system and is, in conjunction with the Central Securities Clearing System Plc (CSCS), now capable of offering electronic clearing, settlements and delivery and custodian services. Headquartered in Nigeria’s commercial capital, Lagos, there are 13 other branches around the country where trading occurs simultaneously.
The NSE currently operates the Main Board, the Alternative Securities Market (ASeM), and the recently introduced Premium Board.24 The ASeM Board is targeted at small and medium-sized enterprises and offers less stringent listing requirements and a relatively lower cost of raising capital. Significantly, companies seeking to be listed on the ASeM must appoint a ‘designated adviser’ whose role is to navigate the company through the listing process and requirements, especially its continuing obligations once listed on the ASeM. Conversely, the Premium Board is for gold standard companies that successfully meet the most stringent standards of the NSE. The listing requirements for listing on the NSE are codified in the NSE Green Book and additional listing requirements for the Premium Board are in force.25
Importantly, all trading and listing on the NSE occurs through dealing members, which are stock broking firms so licensed by the NSE. Investors are required to open securities accounts with the CSCS.
As mandated by the ISA,26 the NSE maintains an Investors Protection Fund (IPF). The IPF is administered by a board of trustees subject to the regulatory supervision of the SEC. The IPF is for the compensation of investors’ losses arising from ‘the insolvency, bankruptcy or negligence of a dealing member firm of a securities exchange; and defalcation committed by a dealing member firm or any of its directors, officers, employees or representatives in relation to securities, money or any property entrusted to, or received or deemed received by the dealing member firm in the course of its business as a capital market operator’.27
Act of the National Assembly in the absence of any amendment to the provision in question.’ (Per Saulawa, J.C.A. at p. 28).
23 The NSE is currently a non-profit making CAMA-company Limited by Guarantee. However, there are plans for the demutualisation of the NSE. Relatedly, SEC released the ‘Rules on Demutualisation of Securities Exchanges in Nigeria’ in the first quarter of 2015.
24 The Premium Board was officially launched by the NSE on 25 August 2015 with the three pioneer companies that successfully met the stringent listing requirements. The companies are Zenith Bank Plc, FBH Holdings Plc and Dangote Cement Plc.
25 The additional listing requirements for the Premium Board can be found at www.nse.com.ng/regulation-site/IssuersRules/Rules%20for%20Listing%20on%20the%20Premium%20Board.pdf.
26 ISA Section 197.27 ISA Section 198.
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Claims can only be made against a dealing member and the current maximum amount an investor can receive as compensation in a claim against a dealing member is 400,000 naira.28
II THE YEAR IN REVIEW
i Premium Board listing requirements
The Premium Board can be accessed by companies already listed on the Main Board29 that score a minimum rating of 70 per cent on the NSE’s Corporate Governance Rating System,30 a requirement which is currently applicable only to the Premium Board. Moreover, such a company must achieve a market capitalisation of at least 200 billion naira)31 and have a minimum free float of 20 per cent of its issued share capital; or have a free float that is at least 40 billion naira at the date of its application to the NSE. The introduction of the Premium Board, one must say, is a welcome development. It will be interesting to see the market’s reaction to it in the coming months.
ii Rules on the Demutualisation of Securities Exchanges32
A securities exchange seeking to demutualise is required to first obtain a ‘no objection’ from the SEC. The requirements for obtaining the SEC’s ‘no objection’ include (1) the names and profiles of the members of the committee on demutualisation33 of which one-third shall be independent; (2) proposed rules of the demutualised securities exchange; and (3) the proposed plan for the independent management of the commercial and regulatory functions of the demutualised securities exchange and timelines for implementation of necessary structures to ensure the functional treatment of commercial and regulatory functions.34
28 This amount might be inadequate to compensate a high net worth investor; it is, however, in relative terms, a decent sum to the average Nigerian small-time investor who is more susceptible to falling victim to market woes and in more need of the compensation.
29 The NSE has stated that it will be willing to entertain applications from companies not already listed on the Main Board but meet the other requirements for listing on the Premium Board.
30 The NSE’s Corporate Governance Rating System is the first of its kind in the Nigerian capital market. It was launched in collaboration with the Convention on Business Integrity and tests not only the corporate governance of companies but also their anti-corruption practices.
31 This compares to a minimum market capitalisation requirement of 4 billion naira for the Main Board.
32 The rules can be downloaded at www.sec.gov.ng/articles/new-regulations-on-demutualization.html.
33 This is a committee of the SEC responsible for coordinating the demutualisation process of a securities exchange.
34 Where the SEC grants its approval to the demutualisation of a securities exchange, the rules further provide that such a demutualised securities exchange shall implement this plan for the
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A formal application is thereafter submitted to the SEC with additional documents including a detailed three-year business development plan including the securities exchange’s capital expenditure estimates and its sources of finance for the three-year period. The SEC is required to (1) approve; (2) reject; or (3) request for additional information from the applicant-exchange within 45 days.
The rules set maximum limits to the ownership of the demutualised securities exchange by (1) a single person/entity or related entities/persons; (2) members of a specific stakeholder group; and (3) strategic investors35 at 5 per cent, 20 per cent and 30 per cent respectively. Moreover, at least one-third of the board of directors of the demutualised board must be independent directors, with all appointments of directors and executive management made subject to the prior approval of the SEC.
It is expected that the NSE will take advantage of these rules to achieve its demutualisation goals and bring it at par with many of its counterparts in other countries.
iii Securitisation
The first quarter of 2015 witnessed the introduction of rules on securitisation (the Securitisation Rules) by the SEC. A draft copy of the Securitisation Rules was circulated in 2014 for public consultations. The consensus in the market was that the proposed rules would have a positive impact on the Nigerian economy, particularly the housing industry.
The Securitisation Rules defines securitisation simply as ‘an issuance of securities backed by a pool of assets’.36 Wide-ranging requirements for securitisation transactions are established under the Securitisation Rules. The Securitisation Rules do not carve out a separate regime for securitisation but set down requirements which securitisation transactions must comply with in addition to the already-existing requirements under the ISA and SEC Rules that all securities of public companies must be registered with the SEC and that SEC’s approval is required for any form of public offer of securities.
The Securitisation Rules can broadly be grouped into three categories: (1) the nature and administration of the SPV; (2) additional disclosure requirements; and (3) the underlying assets. On the nature and administration of the SPV, the Securitisation Rules define an SPV as ‘a legal entity formed with the exclusive purpose of acquiring and holding certain assets for the sole benefit of noteholders in the Asset Backed Securities or ABS, such that the noteholders have acquired nothing but undivided interests in the asset pool.’37 Consistent with this definition, the Securitisation Rules provide, among others, that the constitution of the SPV must be limited to matters related to the securitisation
independent management of the commercial and regulatory functions of the exchange within one year of the grant of approval.
35 The term ‘strategic investors’ is not defined under the rules but appears to refer to investors with relevant previous technical expertise as approved by the SEC.
36 The rules can be downloaded at www.sec.gov.ng/files/New%20rules%20April%202015/Update%2017APR2015/RULES%20ON%20SECURITIZATION_17415.pdf.
37 Paragraph A(xx) of the Securitisation Rules.
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transaction and that the SPV must have no employees. Importantly, the SPV can only be a public limited liability company or a trust created by a written instrument.
In registering the securities, the Securitisation Rules also require that documents such as the sale agreement transferring the assets from the originator to the SPV, credit enhancement document (if any) and a description of the proposed transaction must be registered. Also, all applications in respect of a securitisation transaction must include a rating report by a SEC-registered rating agency.
Finally, all on-balance sheet standard assets may be securitised under the Securitisation Rules except: (1) revolving credit facilities (credit card receivables); (2) encumbered assets; (3) securitisation exposures; and (4) loans with bullet repayment of both principal and interest. Moreover, the Securitisation Rules explicitly state the requirements for ensuring that the transfer of assets between the originator and the SPV is deemed as a ‘true sale’ in addition to the transfer being absolute and on a non-recourse basis.
The Securitisation Rules also make provisions relating to instances when the securities may be withdrawn from the market and transactions terminated; appointment and functions of an interim representative; and the appointment and role of servicers.38
iv Rules on trading in unlisted securities
Also introduced by the SEC in the first quarter of 2015 were the ‘Rules on Trading in Unlisted Securities’.39 The rules prohibit the purchase, sale and transfer of securities of unlisted public companies except by ‘means of a system approved by the Commission and under such terms and conditions as the Commission may prescribe from time to time’ and ‘through the platform of a registered securities exchange established for the purpose of facilitating over-the-counter trading of securities’.
The rules are laudable because they seek to increase transparency, especially with regard to pricing of unlisted public securities. The rules also complement ongoing market efforts in the offering, sale and transparent pricing of unlisted securities. These efforts have resulted in the establishment of two SEC-registered securities exchanges, namely, the NASD OTC and FMDQ OTC. These two OTC platforms have further expanded the reach of the market and provided alternatives to both issuers and investors. Although both the NASD OTC and the FMDQ OTC are self-regulatory organisations, they have also increased the regulatory reach of the SEC. After all, their establishment, rules and changes to such rules are subject to SEC approval.
38 A servicer under the Securitisation Rules refers to ‘the entity or entities designated by the SPV to collect and record payments received on the pool of assets, to remit such collections to the SPV, and perform such other services as may be required.’ Paragraph A(xix) of the Securitisation Rules.
39 The Rules on Trading in Unlisted Securities can be downloaded at www.sec.gov.ng/files/New%20rules%20April%202015/Update%2017APR2015/RULES%20ON%20TRADING%20IN%20UNLISTED%20SECURITIES_17415.pdf.
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To ensure the effectiveness of the SEC Rules on Trading in Unlisted Securities, the contravention of the provisions of the rules is expressly made an offence punishable by a penalty.40
v Banks accessing the market for tier two capital
In December 2013, the CBN issued a circular to all banks and discount houses on the implementation of Basel II/III in Nigeria (the Circular). The Circular introduced guidance notes on regulatory capital (the Guidance Notes), which were substantially similar to the requirements of Basel II/III but also adjusted to reflect the peculiarities of the Nigerian economy. Regulatory capital was required for the calculation of the capital adequacy ratio which the CBN has retained at a minimum of 10 per cent for banks limited to local operations and 15 per cent for those with international operations.
The market therefore continues to witness significant activity by Nigerian banks offering both equity instruments (to raise Tier I capital) and debt instruments (to raise Tier II capital) compliant with the Guidance Notes. Unlike previous capital raising exercises, banks have had to be conscious of additional requirements which these instruments have to meet to secure their inclusion in the regulatory capital of such banks. For instance, for a bank’s debt instrument to qualify, the Guidance Notes provide that it must, among others, be issued and fully paid-up in cash with the paid-up amount unsecured or (un)covered by a guarantee of the bank or any of its subsidiaries, or subject to any other arrangement that legally or economically enhances the seniority of the claim in relation to the bank’s creditors and depositors. Furthermore, the debt instrument must have a minimum original maturity of at least five years with the holders of such debt instrument not having any right to accelerate the repayment of future scheduled payments (either coupon or principal), except in a bankruptcy or liquidation of the bank.
Operators in the market have therefore been careful to ensure that debt securities issued by banks for regulatory capital purposes are structured and captured in transaction documents in ways that ensure that there is full compliance with the Guidance Notes. Where previously a bank would have issued bonds secured against its assets, banks have taken to offering unsecured bonds and have had to find other means of improving their creditworthiness and the rating of such debt instruments without running afoul of the prohibition against credit enhancement.
vi New codes of conduct
Three codes of conduct were released by the SEC in 2015 relating to (1) trustees; (2) rating agencies; and (3) underwriters. These further attempts by the SEC to clearly define the roles and define the responsibilities of these important market actors are clearly intended to increase and foster investor confidence in the market. It is expected that
40 See paragraph c of the Rules on Trading in Unlisted Securities. The penalty is a fine of not less than 100,000 naira in the first instance and not more than 5,000 naira for every day of default and applies to ‘any unlisted public company, director, company secretary, registrar, broker/dealer or such other persons’ who contravene the provisions of the rules.
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the SEC will ensure that these codes of conduct are strictly adhered to by monitoring compliance and imposing penalties on defaulters, where necessary.
III OUTLOOK AND CONCLUSIONS
The Nigerian capital market can best be described as emerging, robust and dynamic. Tailor-made regulations and products introduced by the SEC make the market attractive to both local and foreign investors. Nigeria’s huge demographics, active securities exchanges, burgeoning middle class, active and functional judicial system and the possibility of cross-border securities issues make it an investor’s haven. The SEC’s unrelenting resolve in enforcing its rules and regulations and the introduction of new products into the market have helped foster investor confidence and deepened the market.
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Chapter 23
PERU
Juan Luis Avendaño C and Nydia Guevara V 1
I INTRODUCTION
The Peruvian capital market has recently experienced some changes aimed at increasing the number of issuers and investors through measures that seek to promote the access of more companies (particularly medium-sized ones) to the capital markets, by reducing costs and simplifying the security registration procedure with the Capital Markets Public Registry (RPMV) of the Superintendency of Capital Markets (SMV), applicable to public offerings. On the other hand, additional modifications have been implemented and are being assessed by the SMV with the intention of strengthening the reporting requirements and disclosure of information obligations post-offering.
In addition to that, new ways are being explored with the intention of increasing the liquidity of the domestic capital market, and at the same time allowing and facilitating investments by the main Peruvian institutional investors in new products abroad, especially considering that the market demand is still greater than the domestic offer.
In the next sections we will briefly describe the structure of the Peruvian capital markets before going into the most important changes from the current year.
i Structure of the Peruvian capital market
The Peruvian Securities Law (the Securities Law)2 and the regulations thereunder set out the legal framework of the Peruvian securities market and the obligations that the agents participating on it – such as issuers, stockbrokers, stock exchanges, clearing houses, securitisation entities, fund managers and rating agencies – must follow when offering, trading or negotiating securities.
1 Juan Luis Avendaño C and Nydia Guevara V are partners at Miranda & Amado Abogados.2 Approved by Supreme Decree No. 093-2002-EF, as amended and modified.
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The governmental regulatory and supervisory entity of the Peruvian securities market is the SMV, which is a member of the International Organization of Securities Commissions (IOSCO). The Lima Stock Exchange (BVL) also provides some regulations in terms of securities trading and supervises the conduct of the issuers with listed securities and stockbrokers in connection therewith.
ii Main provisions of the Securities Law
The central purposes of the Securities Law are to promote the development and transparency of the local securities market and to provide adequate protection to investors.
In this sense the Securities Law includes some general provisions such as the following:a all market participants and securities issued through public offerings shall be
registered in the RPMV, the former being obliged to disclose in a timely manner all necessary information so investors can access such information and make duly informed investment decisions;
b all information filed with the RPMV (and the BVL, in case of listed securities) shall be accurate, complete and filed in a timely manner;
c it is prohibited to enter into fake transactions or to promote the purchase or selling of securities through fraud; and
d insider trading practices are prohibited, so that individuals who acknowledge privileged information3 are forbidden to disclose privileged information before it
3 The Securities Law defines privileged information as any information regarding an issuer, its business, or its securities which has not yet been disclosed to the market and which public acknowledgement may impact in the liquidity and price of those securities.
The Securities Law also considers, except where proven otherwise, that the following persons have access to privileged information:
a directors and managers of issuers, institutional investors and any related companies, as well as members of the investment committee of such institutional investors;
b shareholders owning 10 per cent or more of the issuer’s equity or the institutional investor’s equity, considering in that percentage the ownership of their spouses and next of kin relatives;
c partners, managers and employees of auditing firms hired by the issuer who are in charge of auditing the issuer’s financial statements;
d partners, directors, managers and members of rating agencies, and companies that make valuations before takeover bids;
e managers, counsels, brokers and representatives of stockbrokers; f directors, managers and officers of the stock exchanges; g officers of the SMV and the Superintendence of Banks, Insurance Companies and Private
Pension Fund Managers (SBS); h officers, directors and managers of clearing houses; i any employee of the issuers or of institutional investors working under direct supervision of
their directors and managers;
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becomes public; trade or recommend to trade securities related to the privileged information; and take advantage, directly or indirectly, of the acknowledgement of privileged information.
iii Definition of securities in Peru
The Securities Law applies to any security offered or negotiated on Peruvian territory regardless of its place of issuance. The Securities Law defines ‘securities’ as ‘any negotiable security, massively4 issued and which grants credit, property or participation rights to their respective holders, including any rights and indexes related to the latter’.
Securities that fall under the aforementioned definition will be freely offered and negotiated in the Peruvian market through either private or public offerings, provided that the applicable requirements and conditions set out under the Securities Law, and the regulations promulgated thereunder, are duly met.
Securities more commonly traded in the Peruvian market are shares, bonds and short-term securities (securities with maturity no longer than one year).
iv Public offerings and private placements
Pursuant to the Securities Law, an offering of securities is a ‘public offering’ when the following characteristics are met:5
a there is an invitation, adequately advertised;b the invitation is addressed to the general public or to a certain segment thereof;
andc the purpose of the offering is to perform any act related to the placement,
acquisition or sale of securities.
Only public offerings of securities are subject to the provisions and obligations established in the Securities Law and other regulations approved by the SMV. In this sense, securities and issuers of public offerings must be registered with the RPMV, for which purpose the issuer shall file before the SMV information about itself, the securities to be offered, and the rights, obligations and investments risks assumed by the holders of the securities to be offered. Once the security has been registered with the RPMV, the issuer shall inform
j any individual providing temporary or permanent counselling services to the issuer regarding managerial decisions; and
k officers of financial institutions in charge of approving loans to the issuer.4 The Peruvian Initial and Sale Public Offering Regulations (the Offering Regulations) set
out that the term ‘massive issuance’ may be construed as the issuance of a certain number of securities, of the same characteristics or otherwise, on a simultaneous or successive basis, within a certain period of time, and as part of the same financial or similar operation, in such manner as to make possible the subsequent distribution of said securities to the public or to a segment of it. The successive or simultaneous issuance of 10 or fewer securities within a period of one year will not be considered as a massive issuance.
5 For the purposes of further clarifying the scope of the term ‘public offering’, the Offering Regulations describe the characteristics of each element of the ‘public offering’ definition.
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the SMV (and the BVL, in case the security is listed with such stock exchange) of all relevant information – about itself and the security – which could affect or modify the decision of the holder in respect of purchasing, keeping or selling the security.
On the contrary, any offer that does not present the features mentioned in the preceding paragraphs qualifies as a private placement, and therefore is not subject to the registration requirements previously described. In accordance with the Securities Law, the following offerings are considered to be private placements:a offerings addressed exclusively to institutional investors,6 provided that the
securities acquired by said investors may only be transferred to any third parties in the event that the securities are registered with the SMV prior to the transfer, unless the person acquiring the securities is also an institutional investor, in which case no registration requirements apply; and
b offerings involving securities with a nominal or placement value of at least 465,942.205 nuevos soles per unit,7 provided that the securities cannot be transferred by the original purchaser to any third party at a lower nominal or placement value.
Private placements are not within the scope of the Securities Law (therefore every act involved in the offering and negotiation of securities through private placements may be freely regulated by the issuing or offering party, including the way in which each specific transaction is to be settled, being limited only by laws of general application), unless the issuer voluntarily decides to register the security with the RPMV. In such a case, the registered security will be treated as public and the issuer will be subject to the general disclosure obligations applicable in the capital markets.
v Trading of securities and intermediation
Intermediation is ‘the performance, on a regular basis, of buying, selling, placing, distributing, brokering, commissioning or negotiating securities in the interest of a third party.’ Additionally, the purchase of securities in the purchaser’s own interests on a regular basis will also be deemed as intermediation activity provided that the securities are purchased to be subsequently transferred to the general public in order to receive a price differential.
According to the Securities Law, the performance of intermediation activities is set aside to intermediation agents only, which are entities duly authorised by the SMV to act as stockbrokerage houses or stockbrokers within Peru and are under the supervision of the SMV and the BVL.
6 The term ‘institutional investor’ includes, among others: banks, financing companies and insurance companies, private pension fund managers and other financial institutions referred to in Article 16 of the Banking Law; intermediation agents, investment funds, mutual funds and other entities that perform similar activities abroad; and qualified institutional buyers, as defined under SEC Rule 144A.
7 Amount updated for 2015.
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Besides the intermediation agents, the BVL, as the stock exchange, plays an important role in securities trading8 since it is the entity that manages the specific procedures9 and electronic system to trade securities.
Likewise, CAVALI is another important participant in the process of securities trading in Peru, as it is responsible for providing electronic registration of the securities, custody of securities and clearing services.
Thanks to the Latin American Integrated Securities Market (MILA), investors from Peru, Chile, Colombia and more recently Mexico (and even non-MILA domiciled investors) can have access to securities issued and traded in any of those countries, at lower transaction costs. At the current stage of the MILA integration process, stockbrokers from the above-mentioned markets may trade securities in any of the stock exchanges operating in the other countries that are part of the MILA, through a ‘routing model’ pursuant to which domestic stockbrokers cannot put orders directly into the foreign market but must necessarily contact a foreign stockbroker operating in that market and enter into a correspondent agreement in order for it to enter the order. The full integration of the MILA markets in terms of mechanics, procedures and regulatory aspects, which will give place to a unified clearing and settlement system among them, is still in progress and may take some time to be completed. However, to date the use of this platform for equity trading has been progressively increasing with regard to the number of securities and transactions, providing investors with new opportunities for investment diversification and allowing issuers to access to a broader market with a higher number of potential investors.
II THE YEAR IN REVIEW
In this section you will find comments on recent modifications or development of rules and regulations whose main objective is to promote the capital markets or to protect investors and punish unlawful conducts that could prejudice the confidence of the investors in the capital market.
i Developments affecting debt and equity offerings
Alternative Securities MarketIn 2012 the SMV created a special segment called the ‘Alternative Securities Market’ (MAV) for conducting primary and secondary public offerings of shares, short-term debt instruments and bonds, aimed at Peruvian companies that:a have average annual revenues from the sale of goods or services not exceeding
approximately US$65.5 million in the past three years;
8 Regarding securities issued by the Ministry of Economy and Finance of the Republic of Peru or by the Peruvian Central Bank and for currency exchange rate transactions, DATATEC is the electronic trading system.
9 The system has different alternatives depending on the type of security subject to trade or the type of transaction: trade of equity, trade of bonds, repo transactions, among others.
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b do not have or have not had securities registered in the RPMV or traded on local or foreign stock exchanges; and
c are not required to register their securities with the RPMV.
Through the implementation of the MAV the SMV sought to open the market to medium-sized companies, in order for them to have an additional financing opportunity through the capital markets. Taking into account such feature, the MAV brought a more flexible regime for the provision of information for both the registration procedure with the RPMV for the performance of a public offering and information disclosure obligations post-offering.
Even though the MAV was originally approved including the possibility of issuing debt instruments as well as equity, the SMV had only implemented the legal framework for the issuance of the former within the MAV, it not having being possible to use this segment for the issuance of shares. More recently, in August 2015, the SMV approved Superintendent Resolution No. 078-2015-SMV/02 establishing the regulatory specifications for the issuance of shares through initial public offerings within the MAV. Hence, companies complying with the requirements mentioned above can now finance their projects through the capital markets via initial public offerings of shares as part of this special segment, with fewer requirements for the registration procedure as well as fewer post-placement disclosure obligations.
Registration of foreign securities before the RPMV and the Registry of Securities of the BVL (RVBVL)The Peruvian legal framework regarding registration of securities for trading in the BVL has always allowed the registration of foreign securities in the RPMV and the RVBVL so they can be traded on such stock exchange. In this context, and with the objective of promoting the liquidity of the Peruvian capital market, through SMV Resolutions No. 022-2014-SMV/01 and No. 007-2015-SMV/01, the SMV approved changes to the existing regulations to stimulate and facilitate the registration of foreign securities in the RPMV and the RVBVL. One of the most relevant changes is the possibility of registering foreign securities in the RPMV and the RVBVL at the request of the BVL or any ‘promoting agent’10 when the securities have been previously admitted to trading on the following foreign stock exchanges or organised markets and belong to the following stock indexes:a New York Stock Exchange or Nasdaq Stock Market (Dow Jones Industrial
Average, Standard & Poor’s 500 Index, NYSE Composite Index and NASDAQ Composite);
b Euronext Paris (CAC 40 Index);
10 In accordance with SMV Resolution No. 007-2015-SMV/01, ‘promoting agent’ is any company requesting before the SMV the registration of a foreign security in the RPMV and the RVBVL, which will assume the obligations described in the regulations applicable to such type of listing procedure. Stockbrokers are allowed to act as ‘promoting agents’ for foreign securities.
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c Euronext Amsterdam (AEX Index); andd London Stock Exchange (FTSE 100).
In such cases, the registration of the foreign securities will be automatically approved by the SMV upon the submission of the applicable documentation, which includes an affidavit from the BVL or the promoting agent stating that it has access to information about the daily trading of the securities in the foreign stock exchange where they are listed; a description of the main characteristics of the issuer and the securities; a description of the rules applicable to the issuer for the reporting of financial statements and material facts in the foreign stock exchange where the securities are listed; among others.
Considering that in these cases the registration of the foreign securities with the RPMV and the RVBVL is approved when requested by the BVL or a promoting agent, the regime of disclosure of information applicable to the foreign securities will be governed by the rules of the foreign market where the securities are originally listed. Therefore, it will be the BVL or the promoting agent who requested the registration of the securities assuming the obligation of informing the SMV and the Peruvian market about any fact that could affect, modify or restrict the transmissibility or negotiation of the securities. In addition, the BVL shall give access through its web page to a link where the investors can find the information provided by the issuer in the foreign market where the securities are listed.
The purpose of these measures is to expand the investment opportunities of local investors, particularly institutional investors, which are always seeking new instruments and risk diversification.
ii Developments affecting derivatives, securitisations and other structured products
Changes to the private pension fund administrators (AFPs) investment schemeDuring 2015 the SBS introduced important changes in connection with the investment regime applicable to AFPs, which are the largest institutional investors in the Peruvian capital market.
During 2014 important changes to the AFPs investment approval process were implemented by the SBS in order to simplify such process by no longer requiring the registration of many investment instruments (plain-vanilla instruments) with the SBS. The process is now conducted internally by each AFP in accordance with its own investment policies and internal analysis. Regarding the above, the SBS has recently specified that the following investment instruments do not require authorisation from the SBS, as they are subject to the analysis of eligibility to be made by each AFP:a instruments representing rights to local or foreign equity;b instruments representing short-term liabilities or assets in cash and instruments
representing rights on debt;c structured investment instruments not incorporating in their structure derivatives
or alternative instruments;d participation shares in investment funds;e participation shares in local and foreign traditional mutual funds; andf currency forwards with maturities of less than one year.
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On the other hand, in order for AFPs to invest in the following instruments, prior authorisation from the SBS will be required:a structured investment instruments whose structure incorporates derivatives or
alternative instruments;b financial instruments on derivative strategies;c alternative instruments such as alternative foreign mutual funds; andd derivative instruments, except for currency forwards with maturities of less than
one year.
In addition, the SBS has recently approved other changes enabling AFPs to invest, directly and indirectly, in a wider range of local and foreign instruments. Accordingly, AFPs can now directly invest in financial instruments on derivative strategies and in companies listed on centralised trading mechanisms whose exposure corresponds to investment strategies employed by alternative investment funds (business development companies). Likewise, AFPs can indirectly invest in real estate and guaranteed bank loans through local or foreign investment funds, and in bank loans through local or foreign mutual funds. AFPs can also indirectly invest in bank loans, syndicated loans, credit card receivables, remittances and commercial accounts receivables through local or foreign securitisation vehicles.
Finally, by means of the mentioned amendments, the SBS has established additional requirements applicable to the instruments and operations such as derivatives, repo transactions, mutual and investment funds, securitised and structured instruments, in order to be eligible for AFP investment; as well as requirements applicable to the issuers, the counterparties of the transactions, the fund managers or the trustee (as applicable) for the AFPs to be able to enter in those investments with them.
iii Relevant tax law
Tax benefit for real estate investment fundsIn order to promote the development of real estate investment funds (FIRBIs), an important tax incentive has been adopted through Legislative Decree No. 1188, which provides for a more beneficial treatment in connection with income tax and real property transfer tax (Alcabala) applicable to real estate owners contributing their assets to a FIRBI. Such benefit consists in deferring the above-mentioned taxes resulting from the contribution of the property, until the ownership of the real estate property is ultimately transferred by the FIRBI or the contributing participant transfers any participation interest in the FIRBI. These tax incentives will be effective from 1 January 2016 until 31 December 2019.
For the purpose of the application of tax incentives, a FIRBI must:a qualify as a publicly offered investment fund and be managed by a licensed
Peruvian fund manager (Sociedad Administradora de Fondos de Inversión (SAFI));
b invest in the acquisition or construction of real property for lease or other similar uses;
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c at least 70 per cent of the FIRBI’s assets must be invested in real property (the remainder may be invested in bank deposits, instruments related thereto, or debt instruments issued by the Peruvian government or the Peruvian Central Reserve Bank);
d real estate properties must be contributed to the FIRBI between 1 January 2016 and 31 December 2019;
e real estate property acquired or constructed for lease purposes may only be transferred after four years from the moment they were acquired or the construction was completed; and
f it must distribute at least 95 per cent of its annual net income.
The tax incentive approved by Legislative Decree No. 1188 introduces a treatment that is similar to the one currently existing in other markets such as Mexico, where FIRBIs have seen important development; so it is expected that in Peru these investment vehicles will have the same future, therefore contributing to the growth that the real estate sector in Peru has experienced in the past decade.
Tax incentive to promote the Peruvian capital marketThe Peruvian Congress has recently approved a legal initiative promoted by the executive branch in order to exempt from income tax any income derived from the transfer of shares through a stock exchange supervised by the SMV (currently, the only one is the BVL). The exemption will apply to transfers made by a shareholder, or its relative parties, involving less than 10 per cent of the total capital share of the listed company within a period of one year, provided that the shares subject to transfer comply with certain liquidity requirements showing stock market presence.
While the measure seeks to improve the liquidity of the Peruvian capital market by making it more attractive to investors and improving its competitiveness in comparison with the capital markets in Chile, Colombia and Mexico (where the income from the transfer of shares is not levied with income tax either), the impact of the incentive may be relatively small due to the ‘stock market presence’ requirement which seems to be too restrictive and only fulfilled by a small number of shares currently trading on the Peruvian capital market.
The exemption will be in force for three years from 1 January 2016 until 31 December 2018.
iv Other strategic considerations
New periods for the submission of financial statementsAnother important legal modification made in 2015 relates to the presentation of financial information of issuers with securities registered in the RPMV and other entities supervised by the SMV (such as stockbrokers, fund managers, clearing houses, among others). This modification intends to strengthen transparency in the Peruvian market by reducing the terms applicable for the disclosure of financial information to the SMV and the BVL.
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Additionally, the above-mentioned regulation also establishes the obligation of issuers with securities registered in the RPMV and other entities supervised by the SMV to submit consolidated financial statements of their last parent company when: a the last parent company is incorporated within Peru; b the last parent company is incorporated abroad and presents consolidated financial
statements in other market – if the last parent company has this obligation in more than one foreign market, its consolidated financial statements shall be submitted in the shortest period required among those markets and in the same frequency and timeliness, followed by a translation into Spanish (when necessary) within the next 20 calendar days following the submission of the financial statements; and
c the assets of the last parent company incorporated abroad guarantee or serve as a support of more than 30 per cent of the principal of debt securities issued by the subsidiary and registered with the RPMV.
The SMV may exempt from the presentation of the information described above, at the well-founded request of the entity obliged to submit the consolidated financial statements mentioned above.
Upcoming changes in relevant regulationsShort-swing profitsRecently, a new complementary regulation has been issued by the SMV, specifying general dispositions applicable to the obligation of directors and managers of a company with listed securities, who trade such company’s securities and earn short-swing profits (from any purchase and sale within a three-month period), to return those profits to the company. The new complementary regulation states what operations must be included in the calculation of the short-swing gain that shall be returned to the company and establishes the methodology applicable to such calculation.
New rules and definitions on ownership, related parties and economic groupsRecently, the SMV has modified the Regulations on Indirect Ownership, Related Parties and Economic Groups, in order to adapt these rules to the complexity of the business structures shown by the agents now existing in the securities market, aiming to be more comprehensive in connection with the scope of the reporting requirements related to it. In that sense, the Regulations establish a new definition of indirect property together with a new way of calculating such type of ownership, as well as additional presumptions in order to establish the existence of ‘economic links’ between natural persons and legal entities and among legal entities. The provisions contained in the Regulations will be effective from January 2017.
Guidelines against insider tradingThe regulations on insider trading and the use of privileged information (material non-public information about the company and its securities) currently in force have recently been amended in order to introduce the obligation applicable to the different agents in the market (issuers, securitisation companies, brokerage firms, institutional
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investors and fund managers), of adopting internal communication policies for purposes of informing their employees, personnel in general, and other persons and entities having access to privileged information, about the rules applicable to the disclosure and use of such information (including ‘tips’ about it), and the legal (civil, administrative and criminal) consequences of any breach thereof.
All these recent initiatives are aligned with the main purpose adopted by the SMV of strengthening the transparency of the Peruvian capital market by applying stricter rules about reporting requirements and disclosure of information, seeking to have an impact on the number of potential investors and the offer of securities, thereby improving the liquidity of the market.
III OUTLOOK AND CONCLUSIONS
Even though the Peruvian securities market has grown in recent years and has proven to be more sophisticated than before, it is still a highly concentrated market where institutional investors and largest business groups are basically the only participants. This means that the Peruvian securities market is not yet perceived by local individuals (retail) and small and medium-sized companies as a real alternative providing accessible investment and financing opportunities (in other words, it is not yet a deep market).
In spite of the efforts displayed in recent years by the SMV, the SBS and the BVL to attract a higher number of issuers and potential investors by simplifying access requirements, which in turn should lower the costs involved in the participation of new actors in the securities market, this goal has not yet been achieved. However, we expect that as a consequence of the implementation of the reforms and incentives approved during 2015 aimed at increasing the number of securities listings, improving the number of participants in the market and attracting investors by reinforcing the transparency, the Peruvian securities market should start expanding and integrating at a faster pace.
Our reading is that there are still pending improvements to be made in terms of information on at least two different fronts:a to promote the strengthening, modernisation and growth of market intermediaries
such as mutual fund managers and investment fund managers, which shall become effective channels for connecting large savings from the Peruvian public with Peruvian companies; and
b to continue increasing the level of information disclosure in connection with offerings, instruments, risks and business performance of the issuers, as well as to facilitate the access to such information, so that people can rely on the market, make better investment decisions and be protected against any potential violation of their rights.
Measures dealing with these aspects, together with the strengthening of the institutional framework (meaning the improvement of the regulator’s duties and powers, as well as the level of competence of its officers) and the implementation of the total integration of the MILA markets, shall help generate the conditions to reach the consolidation of the market.
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Chapter 24
PHILIPPINES
Maria Teresa D Mercado-Ferrer, Joan Mae S To and Earla Kahlila Mikhaila C Langit1
I INTRODUCTION
i The Securities Regulation Code
The Securities Regulation Code (SRC)2 is the primary legislation governing the regulation of capital markets in the Philippines. Enacted in 2000, the SRC repealed the Revised Securities Act (RSA),3 which had been effective since 1982, and further strengthened the regulatory structure of the RSA in order to protect the investing public.
ii The Securities and Exchange Commission
The Securities and Exchange Commission (SEC) is the primary administrative agency tasked with the implementation of the SRC. The SEC has the following powers and functions, among others: jurisdiction and supervision over all corporations, partnerships or associations that are grantees of primary franchises and licences or permits issued by the Philippine government; preparation, approval, amendment and repeal of rules, regulations and orders; and the imposition of sanctions for the violation of the same.
Pursuant to its functions, the SEC issues rules and regulations, memorandum circulars, opinions and other issuances to clarify and implement the SRC and related laws, such as the Corporation Code of the Philippines, the Securitisation Act of 2004, the Real Estate Investment Trust Act of 2009, the Investment Houses Law, and the Investment Company Act, among others. For instance, the SEC has promulgated
1 Maria Teresa D Mercado-Ferrer is a partner, Joan Mae S To is a senior associate and Earla Kahlila Mikhaila C Langit is an associate at SyCip Salazar Hernandez & Gatmaitan. The authors would like to thank Ronald P De Vera and Carlos Manuel S Prado, former associates of the firm, for their assistance in the preparation of this chapter.
2 Republic Act (RA) No. 8799.3 Batas Pambansa Blg. 178.
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the Amended Implementing Rules and Regulations (Amended IRR) of the SRC, the 2015 Implementing Rules and Regulations (2015 IRR) of the SRC4 which amended the Amended IRR, the Revised Code of Corporate Governance,5 Rules Governing the Over the Counter Market, Rules and Regulations on Alternative Trading Systems, and the Omnibus Rules and Regulations for Investment Houses and Universal Banks Registered as Underwriters of Securities.
iii The SEC and the Philippine courts
To enable the SEC to focus on its primary function as a market regulator, the SRC mandates the transfer of the quasi-judicial functions of the SEC, as provided for in a prior law,6 to Philippine courts of general jurisdiction or the regional trial courts (RTCs). In this regard, the Supreme Court of the Philippines, the highest court in the jurisdiction, has promulgated several issuances designating certain branches of the RTCs as ‘special commercial courts’ tasked with handling intra-corporate disputes and corporate rehabilitation cases formerly cognisable by the SEC.
However, with regard to issues concerning or arising out of validation of proxies, the Supreme Court clarified that the power of the SEC to regulate proxies remains in place in instances when stockholders vote on matters other than the election of directors. Thus, if the proxies were solicited for the purpose of electing directors, the RTC has jurisdiction over the matter.7
Decisions of the RTCs in intra-corporate disputes and corporate rehabilitation cases may be appealed to the appellate court or the Court of Appeals, whose decisions, in turn, may be challenged by filing the appropriate petition before the Supreme Court, in accordance with the Rules of Court. Decisions of the Supreme Court are final and binding on all parties in a particular case, including the lower courts whose decisions were under review.
iv The SEC and the Central Bank of the Philippines
Aside from having jurisdiction and supervision over all grantees of primary franchise, or the right to exist as a corporation, the SEC also has supervision over grantees of certain secondary licences or permits8 that grant the holders thereof the right to engage in a particular business. However, where secondary licences or permits are required by law to be granted by other government agencies or entities, such agencies or entities shall
4 On 6 August 2015, the SEC released a copy of the 2015 IRR. Under Philippine law, the 2015 IRR of the SRC should take effect 15 days after its publication in a newspaper of general circulation. At the time of writing, the 2015 IRR of the SRC is not yet effective as it has not yet been published in a newspaper of general circulation.
5 As further amended by SEC Memorandum Circular No. 9, series of 2014.6 Presidential Decree No. 902-A, as amended, Section 5.7 Securities and Exchange Commission v. Court of Appeals, G.R. No. 187702 & 189014,
22 October 2014, citing Government Service Insurance System v. Court of Appeals, 603 Phil. 676 (2009).
8 See www.sec.gov.ph/gsr/secondary/secondaryreg.html, last accessed 29 August 2013.
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also have jurisdiction and supervision over the grantees with respect to their secondary franchise.
Thus, under the General Banking Law of 2000,9 no person or entity shall engage itself as a bank or quasi-bank without authority from the Central Bank of the Philippines (BSP), the Philippine central monetary authority. Quasi-banks refer to entities engaged in the borrowing of funds through the issuance, endorsement, or assignment with recourse or acceptance of deposit substitutes.10 Meanwhile, deposit substitutes are defined under the New Central Bank Act as alternative forms of obtaining funds from the public, other than deposits, through the issuance, endorsement or acceptance of debt instruments for the borrower’s own account, for the purpose of re-lending or purchasing of receivables and other obligations.11
v Self-regulatory organisations, exchanges, clearing agencies and depositories
Under the Amended IRR of the SRC, a self-regulatory organisation (SRO) is an organised exchange, registered clearing agency, or any organisation or association registered as an SRO to enforce compliance with relevant provisions of the SRC and related rules and regulations, and mandated to make and enforce its own rules, which have been approved by the SEC, their members or participants.12
An exchange is an organised marketplace or facility that brings together buyers and sellers and executes trade of securities or commodities.13 Under the SRC, an exchange must be registered with the SEC.14
At present, there is only one registered stock exchange in the Philippines, the Philippine Stock Exchange (PSE), which is the result of the merger in 1994 of the Manila Stock Exchange and the Makati Stock Exchange.15 Another exchange registered with the SEC is the Philippine Dealing and Exchange Corp (PDEx). The PSE is a registered SRO for the equities market, while the PDEx is a registered SRO for the fixed-income market.16
A clearing agency, on the other hand, is any person who acts as an intermediary in making deliveries upon payment to effect settlement in securities transactions.17 Like an exchange, a clearing agency must be registered with the SEC.18
The trades at the PSE are cleared and settled through the Securities Clearing Corporation of the Philippines (SCCP), a registered clearing agency. According to
9 RA 8791, Section 6.10 Id., at Section 4.11 RA 7653, Section 95.12 Amended Implementing Rules and Regulations of the SRC, Rule 3, 1(R).13 RA 8799, Section 3.7.14 Id., at Sections 32 and 33.15 Morales, R, The Philippine Securities Regulation Code (Annotated) (2005), p. 231.16 See www.sec.gov.ph/investorinfo/registeredentity/exchange%20self%20regulatory%20
organization%20as%20of%20feb%202013.pdf, last accessed 16 September 2013.17 RA 8799, Section 3.6.18 Id., at Sections 41 and 42.
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the SEC, the SCCP ‘acts as the central counterparty to all trades that are eligible for settlement. In the netting process, the identity of the original parties disappears and the original contract is replaced by two new contracts, and […] becomes the buyer to every seller and seller to every buyer in all exchange trades.’19
A clearing agency may also provide for the central handling of securities so that transfers, loans, pledges and similar transactions can be made by bookkeeping entry, or otherwise, to facilitate the settlement of securities transactions without physical delivery of securities certificates.20 Such clearing agency acts as a securities depository. The Philippine Depository and Trust Corp is a securities depository registered with the SEC.21 In February 2013, the SEC granted the SCCP a provisional licence to operate as a securities depository.22
vi Recent jurisprudence
In the case of Securities and Exchange Commission v. Prosperity.Com, Inc,23 the Philippine Supreme Court adopted the Howey test, as enunciated in a ruling of the United States’ Supreme Court,24 in settling the issue of whether a particular transaction is an investment contract within the definition of securities under the SRC.25
The case concerned the transactions of Prosperity.Com, Inc (PCI), in which, for a certain price, a buyer could acquire from it an internet website. By referring to PCI his or her own down-line buyers, a first-time buyer could earn commission. According to the SEC, PCI’s scheme constituted an investment contract, which must be registered under the SRC.
The Howey test provides that an investment contract has the following elements: a a contract, transaction or scheme; b an investment of money;
19 SEC-Market Regulation Department Opinion No. 1, series of 2008, 28 July 2008, p. 2, citing the 2006 SCCP Rules and Operating Procedures.
20 Amended IRR of the SRC, Rule 3.6(C).21 See www.sec.gov.ph/investorinfo/registeredentity/exchange%20self%20regulatory%20
organization%20as%20of%20feb%202013.pdf, last accessed 16 September 2013.22 See SEC-Market Regulation Department Order No. 3, series of 2013, 19 February 2013.23 GR No. 164197, 25 January 2012.24 Securities and Exchange Commission v. WJ Howey Co, 328 US 293 (1946); US jurisprudence
on securities regulations are not binding in the Philippines, but they enjoy some degree of persuasiveness given that the predecessor to the Revised Securities Act, Commonwealth Act No. 83 or the Securities Act of 1936, was patterned after the US Securities Act of 1933 and the US Securities Exchange Act of 1934; see Morales, R, The Philippine Securities Regulation Code (Annotated) (2005), pp. 2–7.
25 RA 8799, Section 3.1 defines securities as shares, participation or interests in a corporation or in a commercial enterprise or profit-making venture and evidenced by certificates, contracts or instruments, whether written or electronic in character. It includes, among others, shares of stocks, bonds, debentures, notes, evidences of indebtedness, asset-backed securities, investment contracts, certificates of interest or participation in a profit sharing agreement, derivatives, and other instruments as may in the future be determined by the SEC.
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c investment is made in a common enterprise; d expectation of profits; ande profits arising primarily from the efforts of others.
The Supreme Court reversed the SEC, ruled in favour of PCI and held that the scheme was not an investment contract because PCI’s clients do not make investments, but rather purchase products, which, in this case, are the websites. The buyers of the website do not invest money in PCI that it could use for running a business to generate profits for investors. The commission is merely an incentive for clients to bring in other customers and is not profits contemplated under the Howey test.
In a more recent case, the Court had the occasion to rule on the participation and possible culpability under the SRC of a broker,26 dealer,27 or an associated person of a broker or dealer.28 In Securities and Exchange Commission v. Santos,29 the Court ruled that the fact that a person is not a signatory to an investment contract and is merely an ‘information provider’ is not enough to exculpate such person from criminal charges for violation of Section 28 of the Securities Regulation Code, which requires all brokers, dealers and their respective associated persons to be registered with the SEC.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
Amended Implementing Rules of the SRCOn 6 August 2015, the SEC released a copy of the 2015 IRR. Under Philippine law, the 2015 IRR of the SRC should take effect 15 days after its publication in a newspaper of general circulation. At the time of writing, the 2015 IRR of the SRC is not yet effective as it has not yet been published in a newspaper of general circulation.
Certain fundamental changes were adopted in the 2015 IRR. Among these changes are the reduction of minimum gross annual income or portfolio investments in registered securities of qualified individual buyers from 25 million Philippine pesos to 10 million pesos. Securities issued or guaranteed by multilateral financial entities (MFEs) established through a treaty or any other binding agreement to which the Philippines is a party or subsequently becomes a member (such as international financial institutions, multilateral development banks, development finance institutions or any other similar entities) or by facilities or funds established, administered and supported by MFEs, are also considered as exempt securities under the 2015 IRR (i.e., these securities can be
26 ‘Broker’ is a person engaged in the business of buying and selling securities for the account of others.
27 ‘Dealer’ means [any] person who buys [and] sells securities for his/her own account in the ordinary course of business.
28 ‘Associated person of a broker or dealer’ is an employee thereof whom, directly exercises control of supervisory authority, but does not include a salesman, or an agent or a person whose functions are solely clerical or ministerial.
29 G.R. No. 195542, 19 March 2014.
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offered or sold in the Philippines without a registration statement filed therefor with and declared effective by the SEC). In lieu of the registration statement, the issuer must file an offering circular or memorandum in a format prescribed by the SEC containing, among others things, information about the issuer and the security to be issued, information about the MFE, and information about the guarantee.
The 2015 IRR of the SRC also clarified the SEC’s policy on granting relief from the registration requirement due to the limited character of the offering. More specifically, employer-issuers issuing stock options pursuant to an employee stock option plan, is exempt from the registration requirement, as long as the securities will only be made available to the persons named in the application for exemption for a specified period.
Any person or group of persons acting in concert, who intends to acquire 15 per cent of equity securities in a public company in one or more transactions within 12 months, is also required to file a declaration to that effect with the SEC. Meanwhile, unlike the Amended IRR, the 2015 IRR allows underwriters and issuers to agree on a different plan of distribution, and not only on a firm commitment basis.
It is notable, however, that the 2015 IRR is silent on the filing of notice of exemption with respect to transactions that are exempt from the requirement of registration of securities, particularly the private placement and qualified buyer exemptions. The SEC has previously announced that it will issue a clarificatory circular on this matter. At the time of writing, however, the SEC has not yet released such clarificatory circular.
The SEC has also announced that it will issue amended Special Accounting Rules (SRC Rule 68) applicable to companies covered by the SRC. The proposed amendment will extend the effectivity of the financial statements of issuers applying for registration of their respective securities from 135 to 180 days.
The PSE Amended Rule on Minimum Public OwnershipOn 1 January 2012, the amendments to the PSE’s Rule on Minimum Public Ownership (the MPO Rule),30 as approved by the SEC, became effective. Under the MPO Rule, companies listed with the PSE shall, at all times, maintain a minimum percentage of listed securities held by the public equivalent to 10 per cent of the listed companies’ issued and outstanding shares, exclusive of any treasury shares.
Companies that are non-compliant may be granted a grace period within which to comply with the MPO Rule. After the grace period, the PSE shall impose a trading suspension for a period of not more than six months. If, after the lapse of the suspension period, a listed company remains non-compliant with the MPO Rule, it shall automatically be delisted.
Listing Rules for the Main and SME Boards of the PSEIn May 2013, the SEC approved the proposed Rules for Listing in the Main and Small, Medium and Emerging (SME) Boards of the PSE (the Board Listing Rules).31 The Board Listing Rules provide for the replacement of the PSE’s three boards (First Board, Second Board and the SME Board) with only two boards – the Main Board and the SME Board.
30 PSE Memorandum No. CN-0003-12.31 PSE Memorandum No. CN-0023-13.
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The Board Listing Rules are designed to ensure the viability of the companies listing in the PSE. In this regard, companies applying for listing in the Main Board must have a minimum authorised capital stock of 500 million pesos, of which a minimum of 25 per cent must be subscribed and fully paid, as well as a minimum of 1,000 stockholders, each owning stocks equivalent to at least one board lot of the securities of the applicant company. On the other hand, companies applying for listing in the SME Board must have a minimum authorised capital stock of at least 100 million pesos, of which at least 25 per cent must be subscribed and fully paid, as well as a minimum of 200 stockholders, each holding at least one board lot of the securities of the applicant company.
ii Developments affecting derivatives, securitisations and other structured products
SEC Rules and Regulations on Exchange Traded FundsIn 2012, the SEC issued the Rules and Regulations on Exchange Traded Funds (the ETF Rules),32 while the PSE Rules on Exchange Traded Funds (the PSE ETF Rules) were approved by the SEC on 18 March 2013. The PSE ETF Rules must be read in conjunction with the ETF Rules.33
An exchange traded fund (ETF) is a new investment product determined by the SEC to be a type of an open-end investment company, but whose operation differs significantly from the more common type of open-end investment company generally known as a mutual fund. An ETF continuously issues and redeems its shares of stock in creation units in exchange for delivery of a basket of securities representing an index whose performance the ETF endeavours to track, provided that the terms and conditions relative to the issuance and redemption in creation units shall be prescribed and disclosed in its registration statement.34
The ETF Rules list the requirements for the incorporation and registration of ETFs. They further provide that no person shall sell or offer for sale or distribute the shares of stock of an ETF, and no exchange shall accept the listing of the shares of stock of an ETF, unless such shares have been registered in accordance with the SRC.35 On the other hand, no shares of stock of an ETF shall be registered pursuant to the SRC unless the assets of the corporation shall be primarily in baskets of securities comprising the index that it represents to track.36
The Real Estate Investment Trust Act of 2009In 2009, the Real Estate Investment Trust Act (the REIT Act)37 was enacted to govern the formation and operation of real estate investment trusts (REITs), defined as stock
32 SEC Memorandum Circular No. 10, series of 2012.33 PSE Memorandum Circular No. CN-0010-13, Re: PSE Rules on Exchange Traded Funds
(Part A General Provisions and Part B Listing and Disclosure).34 SEC Memorandum Circular No. 10, series of 2012, at Section 4.35 Id., at Sections 7.1 and 10.36 Id., at Section 7.2.37 RA 9856. See also Implementing Rules and Regulations of the REIT Act.
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corporations established for the purpose of owning income-generating real estate assets. However, the REIT, although designated as a ‘trust’, does not have the same technical meaning as ‘trust’ under existing laws and regulations, but is used in the REIT Act for the sole purpose of adopting the internationally accepted description of the company in accordance with global best practices.38
Investment in the REIT shall be by way of subscription to or purchase of shares of stock of the REIT. REITs must distribute annually at least 90 per cent of their distributable income as dividends to their shareholders.39 REITs must also satisfy requirements on minimum public ownership, capitalisation, investment in income-generating real estate and property development activities, among others.
Prohibition on gamblingWith respect to derivatives, it would be well to take into account Article 2018 of the Civil Code of the Philippines (the Civil Code),40 which reads as follows:
If a contract which purports to be for the delivery of goods, securities or shares of stock is entered into with the intention that the difference between the price stipulated and the exchange or market price at the time of the pretended delivery shall be paid by the loser to the winner, the transaction is null and void. The loser may recover what he has paid.
Article 2018 of the Civil Code will not apply where the object of a derivative transaction is the sale or exchange of currencies or monetary obligations (as in foreign exchange contracts, and currency and interest rate swaps). Article 2018 covers only transactions that ‘purport’ to be for delivery of goods. Therefore, it would have no application to, for instance, an interest rate or currency swap transaction where the written contract evidencing the agreement of the parties reflects an intention to make actual delivery of the object of the contract on settlement date. The settlement of a transaction by the netting of an amount mutually owing to the counterparties precisely evidences delivery of the object of the transaction. The fact that the transactions are settled by netting amounts due and owing between the parties would not subject it to the coverage of Article 2018. Under Philippine law, compensation or netting is a legitimate mode of extinguishing obligations of persons who in their own right are reciprocally debtors and creditors of each other.41
However, Article 2018 of the Civil Code will apply if the underlying transaction involves a purported future sale or delivery of goods or securities (other than money), such as physical delivery of shares, bonds or commodities in exchange for cash, but where in fact no delivery is intended.
This is not to say, however, that derivative transactions outside the purview of Article 2018 are necessarily valid and enforceable. The use of derivative transactions to
38 Id., at Section 3(cc).39 Id., at Section 7.40 RA 386.41 Id., at Article 1278.
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speculate on interest or exchange rate movements may characterise the arrangements as a game of chance. This statement is meant to apply to all derivative transactions including rate protection transactions – whether or not covered by Article 2018 of the Civil Code – which are entered into for speculation and not for hedging or other legitimate business purposes. A game of chance (or gambling) is one that depends more on chance or hazard than on skill or ability. Under Article 2013 of the Civil Code, in case of doubt as to the nature of a gaming contract, the presumption is that the transaction is one of chance.
While a game of chance is not illegal per se, Article 2014 of the Civil Code provides that no action can be maintained by the winner to collect what he or she has won, but it permits the loser to recover his or her losses, with legal interest from the time of payment of the amount lost.
iii Cases and dispute settlement
The Alternative Dispute Resolution Act of 2004Arbitration in the Philippines is governed primarily by the Alternative Dispute Resolution Act (the ADR Act).42 The ADR Act declares it a state policy to actively promote party autonomy in the resolution of disputes or the freedom of the parties to make their own arrangements to resolve their disputes. The law seeks to encourage the use of ADR, meaning any process or procedure used to resolve a dispute or controversy, other than by adjudication by a presiding judge of a court or an officer of a government agency, in which a neutral third party participates to assist in the resolution of issues, which includes arbitration, mediation, conciliation, early neutral evaluation, mini-trial, or any combination thereof.43
The ADR Act provides that international commercial arbitration shall be governed by the Model Law on International Commercial Arbitration (the Model Law) adopted by the United Nations Commission on International Trade Law (UNCITRAL). Article 35 of the Model Law governs the recognition and enforcement of an award in an international commercial arbitration. On the other hand, domestic arbitration continues to be governed primarily by the Arbitration Law enacted in 1953,44 although certain provisions of the Model Law are expressly made applicable also to domestic arbitration. When confirmed by an RTC, a domestic arbitral award shall be enforced in the same manner as final and executory decisions of the court.
The New York ConventionThe Philippines is also a signatory to the 1958 Convention on the Recognition and Enforcement of Foreign Arbitral Awards (the New York Convention). Thus, a foreign arbitral award is enforceable in the Philippines through the filing of a petition with the RTC by any of the parties to the foreign arbitration, at any time after the receipt of the foreign arbitral award. The RTC may deny the petition if, among others, it finds that the subject matter of the dispute is not capable of settlement or resolution by arbitration
42 RA 9285.43 Id., at Section 3(a).44 RA 876.
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under Philippine law or the recognition or enforcement of the award would be contrary to public policy.45
Special Rules of Court on Alternative Dispute ResolutionThe ADR Act provides that the recognition and enforcement of foreign arbitral awards covered by the New York Convention, as well as the confirmation of domestic arbitral awards, shall be done in accordance with rules of procedure to be promulgated by the Supreme Court. In this regard, and in line with the state policy to promote alternative dispute resolution, the Supreme Court issued the Special Rules of Court on Alternative Dispute Resolution in 2009.46
iv Relevant tax and insolvency law
Tax implications of non-compliance with the Rule on Minimum Public OwnershipIn November 2012, the Secretary of Finance, with the recommending approval of the Commissioner of Internal Revenue, issued Revenue Regulations No. 16-2012, which provides that publicly listed companies which are non-compliant with the PSE MPO Rule as of 31 December 2011 and those whose public ownership levels subsequently fall below the required minimum percentage at any time prior to 31 December 2012 may be allowed up to 31 December 2012 to comply with the MPO Rule. If a publicly listed company still fails to meet the MPO Rule after the lapse of the grace period, then the sale, transfer or assignment of its shares shall be subject to final tax at the rate of 5 or 10 per cent on the net capital gains, apart from documentary stamp taxes, as prescribed under the National Internal Revenue Code of 1997, as amended (the Tax Code).47
Tax on income from corporate bondsIn December 2012, the Bureau of Internal Revenue (BIR) issued Revenue Memorandum Circular No. 81-2012 (RMC 81-2012), which clarifies certain provisions of Revenue Regulations No. 14-2012 (RR 14-2012) regarding the proper tax treatment of interest income earnings on financial instruments and other related transactions.
Under RR 14-2012, a long-term deposit or investment certificate, as defined in the Tax Code, shall be exempt from income tax provided that the following characteristics or conditions are present:a the depositor or investor is an individual citizen (resident or non-resident),
a resident alien or a non-resident alien engaged in trade or business in the Philippines;
b the long-term deposits or investment certificates should be under the name of the individual and not under the name of the corporation or the bank or the trust department or unit of the bank;
45 AM No. 07-11-08-SC, Rule 13.4(b).46 Id.47 RA 8424, Sections 24(C) and 27(D)(2).
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c the long-term deposits or investments must be in the form of savings, common or individual trust funds, deposit substitutes, investment management accounts and other investments evidenced by certificates in such form prescribed by the BSP;
d the long-term deposits or investments must be issued by banks only and not by other financial institutions;
e the long-term deposits or investments must have a maturity period of not less than five years;
f the long-term deposits or investments must be in denominations of 10,000 pesos and other denominations as may be prescribed by the BSP;
g the long-term deposits or investments should not be terminated by the investor before the fifth year, otherwise they shall be subjected to the graduated rates of 5, 12 or 20 per cent on interest income earnings; and
h except those specifically exempted by law or regulations, any other income such as gains from trading, foreign exchange gain shall not be covered by income tax exemption.
Under Section 22(FF) of the Tax Code, a long-term deposit or investment certificate refers to a certificate of time deposit or investment in the form of savings, common or individual trust funds, deposit substitutes, investment management accounts and other investments with a maturity period of not less than five years, the form of which shall be prescribed by the BSP and issued by banks only (not by non-bank financial intermediaries and finance companies) to individuals in denominations of 10,000 pesos and other denominations as may be prescribed by the BSP.
RMC 81-2012 clarifies the foregoing and provides that, for interest income derived by individuals investing in common or individual trust funds or investment management accounts to be exempt from income tax, the following additional characteristics or conditions must all be present:a the investment of the individual investor in the common or individual trust fund
or investment management account must be held or managed by the bank (which should be duly licensed as such by the BSP) for at least five years;
b the underlying investments of the common or individual trust account or investment management accounts must comply with the requirements of Section 22(FF) of the Tax Code, as well as the requirements under RR 14-2012 mentioned above; and
c the common or individual trust account or investment management account must hold on to such underlying investment for at least five years.
Accordingly, a bond, promissory note or any other type of debt instrument issued by a non-bank corporation as an underlying instrument will not meet the requirements of Section 22(FF) of the Tax Code and the conditions set forth in RR 14-2012 as clarified by RMC 81-2012, as it is not issued by a bank. Thus, an individual investor’s interest income from a trust agreement will not be exempt from final withholding tax if the underlying investment is a corporate bond. Further, the holding period for both the individual investor in the trust agreement and the trust in the underlying instrument must be at least five years for the tax exemption to be applicable.
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The Financial Rehabilitation and Insolvency Act of 2010In 2010, the Financial Rehabilitation and Insolvency Act (FRIA)48 was enacted and repealed the Insolvency Law of 1909.49 Under the FRIA, a debtor is insolvent if it is generally unable to pay its liabilities as they fall due in the ordinary course of business or has liabilities that are greater than its assets. The FRIA provides for the following modes of rehabilitation: court-supervised rehabilitation; pre-negotiated rehabilitation; and out-of-court or informal restructuring agreements or rehabilitation plans. For court-supervised rehabilitation, proceedings may be voluntary or involuntary. The FRIA also provides for the voluntary or involuntary liquidation of insolvent debtors through the filing of a petition for liquidation with the court.
Notably, a regulatory agency or self-regulatory organisation may liquidate trade-related claims of clients or customers of a securities market participant which, for purposes of investor protection, are deemed to have absolute priority over other claims of whatever nature or kind insofar as trade-related assets are concerned.50
For cross-border insolvency proceedings, the FRIA adopts the UNCITRAL Model Law on Cross-Border Insolvency.
v Other relevant laws and regulations
Amendments to the Anti-Money Laundering Act of 2001In 2013, the Anti-Money Laundering Act (AMLA) was further amended,51 expanding the definition of covered persons who are mandated to establish and record the true identities of their clients and to report covered and suspicious transactions to the Anti-Money Laundering Council (AMLC). Covered transactions are those involving cash or equivalent monetary instruments with a total amount in excess of 500,000 pesos within one banking day.52 On the other hand, suspicious transactions are transactions with covered institutions, regardless of the amounts involved, where certain circumstances exist,53 such as when the transaction is related to an unlawful activity or offence as defined under the AMLA.
Before the amendment, the AMLA already included the following covered institutions: banks, quasi-banks and trust entities; securities dealers, brokers, salesmen, investment houses and other similar entities managing securities or rendering services as investment agent, adviser or consultant; mutual funds, close-end investment companies, common trust funds, pre-need companies and other similar entities; and other entities administering or otherwise dealing in currency, commodities or financial derivatives. After the amendment, the list of covered persons was further revised and now also includes, among others, persons who provide the service of managing clients’ money, securities or other assets, as well as the management of bank, savings or securities
48 RA 10142.49 Act No. 1956.50 RA 10142, Section 136.51 RA 9160, as further amended by RA 10365.52 Id., at Section 3(b).53 Id., at Section 3(b-1).
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accounts.54 However, lawyers and accountants authorised to practise in the Philippines and who act as independent legal professionals are not required to report covered and suspicious transactions if the relevant information was obtained in circumstances where they are subject to professional secrecy or legal professional privilege.55
Data Privacy ActIn 2012, the Philippine Data Privacy Act was enacted, which seeks to ensure the confidentiality of information. The Act applies to ‘the processing56 of all types of personal information and to any natural and juridical person involved in personal information processing including those […] controllers and processors who, although not found or established in the Philippines, use equipment that is located in the Philippines, or those who maintain an office, branch or agency in the Philippines.’57 However, ‘personal information originally collected from residents of foreign jurisdictions in accordance with the laws of those foreign jurisdictions, including any applicable data privacy laws, which is being processed in the Philippines’58 is excluded from the scope of the Data Privacy Act.
The Data Privacy Act also provides for extraterritorial application and applies to an act done or practice engaged in and outside of the Philippines by an entity if:a the act, practice or processing relates to personal information about a Philippine
citizen or a resident; b the entity has a link with the Philippines, and the entity is processing personal
information in the Philippines or even if the processing is outside the Philippines as long as it is about Philippine citizens or residents;59 and
c the entity has other links in the Philippines.60
Under the Data Privacy Act, the processing of personal information may be lawfully done, provided one of the following conditions exists:61
a the data subject has given his or her consent;
54 Id., at Section 3(a)(7)(i-ii).55 Id., at Sections 9(c) and 3(a).56 Under the Data Privacy Act, processing refers to any operation or any set of operations
performed upon personal information including, but not limited to, the collection, recording, organisation, storage, updating or modification, retrieval, consultation, use, consolidation, blocking, erasure or destruction of data (see Section 4(j)).
57 Id., at Section 4.58 Id., at Section 4(g).59 Examples are (1) a contract is entered in the Philippines; (2) a juridical entity unincorporated
in the Philippines but has central management and control in the country; and (3) an entity that has a branch, agency, office or subsidiary in the Philippines and the parent or affiliate of the Philippine entity has access to personal information.
60 Examples are: the entity carries on business in the Philippines; and the personal information was collected or held by an entity in the Philippines.
61 Id., at Section 12.
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b the processing of personal information is necessary and is related to the fulfilment of a contract with the data subject or in order to take steps at the request of the data subject prior to entering into a contract;
c the processing is necessary for compliance with legal obligation to which the personal information controller is subject;
d the processing is necessary to protect vitally important interests of the data subject, including life and health;
e the processing is necessary in order to respond to national emergency, to comply with the requirements of public order and safety, or to fulfil functions of public authority which necessarily includes the processing of personal data for the fulfilment of its mandate; or
f the processing is necessary for the purposes of legitimate interests pursued by the personal information controller or by a third party or parties to whom the data is disclosed, except where such interests are overridden by fundamental rights and freedoms of the data subject which require protection under the Philippine Constitution.
The Data Privacy Act also requires that a controller or processor establish certain measures to ensure that information about the data subject is kept confidential62 and punishes, among others, the unauthorised processing of personal information and sensitive
62 Id., at Section 20. The measures are as follows: (1) the personal information controller must implement reasonable and appropriate organisational, physical and technical measures intended for the protection of personal information against any accidental or unlawful destruction, alteration and disclosure, as well as against any other unlawful processing; (2) the personal information controller shall implement reasonable and appropriate measures to protect personal information against natural dangers such as accidental loss or destruction, and human dangers such as unlawful access, fraudulent misuse, unlawful destruction, alteration and contamination; (3) the determination of the appropriate level of security must take into account the nature of the personal information to be protected, the risks represented by the processing, the size of the organisation and complexity of its operations, current data privacy best practices and the cost of security implementation; (4) the personal information controller must further ensure that third parties processing personal information on its behalf shall implement the security measures required by this provision; (5) the employees, agents or representatives of a personal information controller who are involved in the processing of personal information shall operate and hold personal information under strict confidentiality if the personal information are not intended for public disclosure (which obligation shall continue even after leaving the public service, transfer to another position or upon termination of employment or contractual relations); and (6) the personal information controller shall promptly notify the National Privacy Commission (the ‘Commission’) and affected data subjects when sensitive personal information or other information that may, under the circumstances, be used to enable identity fraud are reasonably believed to have been acquired by an unauthorised person, and the personal information controller or the Commission believes that such unauthorised acquisition is likely to give rise to a real risk of serious harm to any affected data subject.
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personal information,63 accessing due to negligence,64 improper disposal,65 processing for unauthorised purposes,66 unauthorised access or intentional breach,67 concealment of security breaches involving sensitive personal information,68 and malicious or unauthorised disclosure.69
Philippine Competition ActOn 21 July 2015, Republic Act No. 10667 or the Philippine Competition Act (PCA) was approved by the President of the Philippines. The PCA provides that parties to an acquisition for control (as characterised under the PCA) the value of which exceeds 1 billion pesos are prohibited from consummating the transaction until 30 days after providing notification to the Philippine Competition Commission (PCC). However, the PCC may, prior to the lapse of such 30-day period, ask for further information. If such a request is made, the parties are prohibited form consummating the agreement until the
63 Id., at Section 25. This is punishable by imprisonment ranging from one to three years and a fine of not less than 500,000 Philippine pesos but not more than 2 million Philippine pesos. If the processing is made without the consent of the data subject or without being authorised under the Data Privacy Act, by imprisonment ranging from three years to six years and a fine of not less than 500,000 Philippine pesos but not more than 4 million Philippine pesos.
64 Id., at Section 26. If personal information is accessed, by imprisonment ranging from one year to three years and a fine of not less than 500,000 Philippine pesos but not more than 2 million Philippine pesos. If sensitive personal information is accessed, by imprisonment ranging from three years to six years and a fine of not less than 500,000 Philippine pesos but not more than 4 million Philippine pesos.
65 Id., at Section 27. This is punishable by imprisonment ranging from six months to two years and a fine of not less than 100,000 Philippine pesos but not more than 500,000 Philippine pesos. If the information was knowingly or negligently disposed, discarded or abandoned in an area accessible to the public or has otherwise placed the personal information of an individual in its container for trash collection, by imprisonment ranging from one year to three years and a fine of not less than 100,000 Philippine pesos but not more than 1 million Philippine pesos.
66 Id., at Section 28. This is punishable by imprisonment ranging from one year and six months to five years and a fine of not less than 500,000 Philippine pesos but not more than 2 million Philippine pesos. If the processing was made for purposes not authorised by the data subject, or otherwise authorised under the Data Privacy Act or under existing laws, by imprisonment ranging from two years to seven years and a fine of not less than 500,000 Philippine pesos but not more than 2 million Philippine pesos.
67 Id., at Section 29. This is punishable by imprisonment ranging from one year to three years and a fine of not less than 500,000 but not more than 2 million Philippine pesos.
68 Id., at Section 30. This is punishable by imprisonment ranging from one year and six months to five years and a fine of not less than 500,000 Philippine pesos but not more than 1 million Philippine pesos.
69 Id., at Section 31. This is punishable by imprisonment ranging from one year to three years and a fine of not less than 500,000 Philippine pesos but not more than 1 million Philippine pesos.
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lapse of 60 days from their receipt of the request for further information. However, the total period for the PCC’s review, from the date of the filing of the notice, cannot exceed 90 days. As defined under the PCA, ‘acquisition’ refers to the purchase of securities or assets, through contract or other means, for the purpose of obtaining control by: one entity of the whole or part of another; two or more entities over another; or one or more entities over one or more entities.
The PCA took effect on 8 August 2015. To date, the rules and regulations implementing it have not yet been issued, and the PCC has not yet been constituted.
vi Other strategic considerations
Arbitration clauseIt may be prudent to provide for binding arbitration in commercial contracts. Binding arbitration can be a faster mode of dispute resolution compared to a full-blown trial in case of litigation. A stipulation that the arbitration venue shall be outside the Philippines is not unusual, and the same avoids any ‘home court’ advantage to the Philippine counterparty.
Where an action is brought concerning a matter that is the subject of an arbitration agreement, the court shall refer the parties to arbitration, if at least one party so requests not later than the pretrial conference, or upon the request of both parties thereafter. The exception is when the court finds that the arbitration agreement is null and void, inoperative, or incapable of being performed. This rule is applicable to both international commercial arbitration and domestic arbitration.70
Choice of law clauseParties to a contract are generally free to stipulate a choice of law. Such choice will generally be respected by Philippine courts provided that there are substantive contacts that justify the choice of foreign law (as when the elements of a transaction have taken place in the jurisdiction of the place of the chosen law).
However, notwithstanding the choice of a foreign law as the governing law, a Philippine court may, in disregard of any provision of the foreign law, apply the laws of the Philippines when:a the foreign law is contrary to an important public policy of the forum;b the foreign law is penal in nature;c the foreign law is procedural in nature;d the foreign law is purely fiscal or administrative in nature;e the application of the foreign law will work undeniable injustice to the citizens of
the forum;f the case involves real or personal property situated in the forum;g the application of the foreign law might endanger the vital interest of the state;h the foreign law is contrary to good morals;i Philippine law expressly decrees application of the domestic law; andj the foreign law is not properly pleaded and proved.71
70 RA 9285, Sections 24 and 33.71 Coquia, J and Pangalangan, E, Conflict of Laws: Cases, Materials and Comments (2000).
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III OUTLOOK AND CONCLUSIONS
After more than 12 years since the enactment of the SRC, the Philippine government finally secured its first conviction for securities fraud. In a decision dated 19 March 2013, the RTC convicted a former president of a corporation for committing violations of the SRC, in particular: a Section 26 on fraudulent transactions, for employing a scheme to defraud clients
and the investing public by using fictitious and dummy accounts in the buying transactions of securities, and for committing fraudulent and deceitful acts of selling and trading shares belonging to clients without their knowledge and consent and without delivering the proceeds of the sale to the said clients;
b Section 49.1 on restrictions on borrowings by members, brokers and dealers, for using a personal loan to augment the reported assets of the corporation in order to make it appear that the corporation complied with the net capital requirement; and
c Section 52.1 on accounts and records, for maintaining two sets of books, one containing the corporation’s actual negative position and an altered database projecting a positive position to show alleged compliance with the audit requirements of the PSE and the SEC, all to the damage and prejudice of the corporation’s clients and the investing public. The RTC sentenced the former president to pay a total fine of 2.1 million pesos.72
With the advent of globalisation and constantly evolving information technology, the Philippine capital market continues to thrive and evolve. It is currently one of the better performing capital markets in the world, recently received credit rating upgrades, and has been forecasted by reputable credit rating agencies to have real potential to increase much further in the coming years. In this regard, along with growth of the Philippines’ capital market, government regulators must all the more remain vigilant, adaptable and forward-looking in devising ways to prevent unscrupulous individuals from implementing schemes to circumvent the law and to defraud legitimate investors and the market participants.
72 Department of Justice, Gov’t Secures First Conviction Under The Securities Regulation Code, 26 March 2013, www.doj.gov.ph/news.html?title=Gov%27t%20Secures%20First%20Conviction%20Under%20The%20Securities%20Regulation%20Code&newsid=172, last accessed 30 August 2013.
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Chapter 25
PORTUGAL
Orlando Vogler Guiné and Sandra Cardoso1
I INTRODUCTION
Following a difficult period in the aftermath of the financial crisis that began in mid-2007 and after the Financial Assistance Programme agreed by the Portuguese Republic with the Troika having concluded in May 2014, the Portuguese economy has been showing important signs of improvement (steady increase of exports, increase in GDP, etc.). Sovereign issuances have been undertaken at historically low yields, as, for instance, the treasury bond syndicated deal of September 2015 shows, in a total amount of €3 billion and a fixed interest rate of 2.2 per cent.
This is even more significant if one takes into account that not much more than one year has passed since the collapse of Grupo Espírito Santo (GES, one of the largest Portuguese conglomerates, with interests all over the economy) and the resolution of BES (of which GES was the largest shareholder), which was decided by the Bank of Portugal on 3 August 2014.
The Portuguese framework on capital markets is substantially in line with European legislation. The Securities Code, enacted by Decree-Law 486/99, as amended, establishes the framework in relation to financial instrument, offers, financial markets and financial intermediation. Specific laws may apply to specific instruments and transactions (commercial paper, covered bonds, recapitalisation, etc.) and regulations issued by the Portuguese Securities Market Commission (CMVM), the Portuguese central securities depository Interbolsa and by Euronex Lisbon should also be considered.
On the banking side, the main framework is the Credit Institutions and Financial Companies Framework, enacted by Decree-Law 298/92, as amended. Also, the notices and instructions issued by the Bank of Portugal may be relevant. Bearing in mind the
1 Orlando Vogler Guiné is a managing associate and Sandra Cardoso is an associate at Vieira de Almeida & Associados, Sociedade de Advogados RL.
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banking union that is being implemented and the EU harmonisation developments, national banking laws are naturally much in line with EU rules.
The Portuguese financial regulation system is composed of three pillars (following the same structure as the European supervisory system, and being divided in accordance with the activities and matters at stake) supervised by three different authorities: (1) the Bank of Portugal, which is the central bank and which has prudential function (now in coordination with the European Central Bank (ECB), particularly for the largest Portuguese banks) and market conduct powers to supervise matters related to credit institutions and financial companies acting in Portugal; (2) the CMVM, which is empowered to supervise the market conduct of financial markets, issuers of securities and financial instruments and financial intermediaries, and (3) the Portuguese Insurance and Pension Funds Authority (ASF), which supervises the insurance system.
Portuguese authorities may also apply sanctions to those entities that do not comply with the applicable laws. In general, the fines depend on the type of entity and activities carried on and the seriousness of the breach. A supervisory authority’s decision may be contested and submitted to the decision of a special court that exclusively decides on competition, regulation and supervisory matters.
Supervisory authorities are now much more active in sanctioning market players and the special court on regulatory matters has been set up to enhance the capacity to respond to the current demands on regulatory matters. In recent years, authorities have imposed fines on several entities, including banking board members who have been accused of hiding relevant accounting information.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
Market trends and legal remarksThe past year has presented an interesting but challenging environment in the Portuguese capital markets. As noted above, the landmark event one year ago was the resolution of BES and the creation of the bridge bank Novo Banco. This was unprecedented terrain for Portugal, and even at an EU-wide level, if one takes it as the first resolution with the Bank Recovery and Resolution Directive (BRRD).2 It is of public knowledge that this is still being litigated by a number of entities, but the Bank of Portugal still managed to conduct an innovative sale process (i.e., an M&A transaction under public law rules). However, in September 2015 the Bank of Portugal announced the suspension of negotiations, essentially due to the uncertainties that may impact the financial condition of Novo Banco, especially considering that the ECB Supervisory Review and Evaluation Process on Novo Banco will only be completed towards the end of 2015. Negotiations are to be resumed after such uncertainties are resolved.
Once this process is finalised, it will certainly contribute to the normalisation of the financial system in the near future.
2 Directive 2014/59/EU.
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Tender offersFrom August to October 2014, four interested acquirers aimed at purchasing a controlling stake (ultimately, all the listed share capital) in ES Saúde, a health-care operator, which at the beginning of the year had its IPO and was part of GES. These included national and foreign investors, some already present in the Portuguese health market and others not. During the process the first two competing bids, under the current Securities Code, were launched, and another party aimed to acquire the controlling stake directly, via an over-the-counter (OTC) transaction, which was blocked by the CMVM. As reported last year, the CMVM took the opportunity to lay down some interpretations of the competing offer regime,3 which should be taken into account in future bids, particularly with regard to interaction with the antitrust legislation and deadlines.
In the context of the merger between the Portugal Telecom group and Oi, a Brazilian telecoms operator, and the aftermath of the GES crisis, which materially affected the former, Portugal Telecom group was the target of several potential transactions, including firm M&A offers for its Portuguese business (ultimately acquired by Altice for over €7 billion) and the announcement of a general and voluntary takeover bid at the beginning of November 2014 by Terra Peregrin. The actual feasibility of this tender offer and the legal nature thereof was widely discussed in the market, and ultimately it was withdrawn.
On the banking side, in February 2015, the Spanish CaixaBank preliminary announced a public general and voluntary takeover bid for the acquisition of BPI. CaixaBank was already a major shareholder of Banco BPI, just below half of the share capital and voting rights. Although it held more than one-third of the share capital and voting rights of BPI, it has been accepted by the CMVM (and the market) that CaixaBank actually has no control over BPI, for a number of legal reasons, including the currently applicable 20 per cent voting rights cap in BPI’s by-laws. This takeover bid was subject to some conditions, among others, the removal of said voting cap upon a shareholders’ resolution. The respective shareholders’ meeting to remove the voting cap occurred on June 2015, but it was dependent on the favourable vote of 75 per cent of the votes cast. As this majority was not achieved, the main condition to launch the takeover, as announced by CaixaBank, was not met and the takeover offer was withdrawn. In this context there have also been moves among shareholders to reanimate a project to merge BPI with BCP, but this seems to have been dropped in the meantime.
In respect of BPI, we would note that it recently announced an intended split of its African (Angolan mostly) business, to tackle the applicable higher capital requirements due to the increase of risk weighting of such business as determined by European regulation. If the project is approved by the relevant shareholders and regulators, a new company (a holding) will be incorporated and listed on Euronext Lisbon market, having BPI’s shareholders as initial shareholders.
As a side note, the most recent (ongoing) takeover transaction is the general and voluntary takeover bid over Glintt, announced in September 2015 by Farminveste,
3 See www.cmvm.pt/CMVM/Apoio%20ao%20Investidor/Faq/Pages/20141013j.aspx.
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its majority shareholder. Glintt’s board of directors publicly announced that the consideration proposed by Farminveste is adequate.
Public offersThe end of 2014 and the beginning of 2015 saw an increase in the recourse to the capital markets by non-financial Portuguese companies. This included a share capital increase, under a public offering and a subsequent institutional placement (by SONAE Indústria in November 2014), accelerated book buildings (ABBs, as was the case of a stake of approximately 2 per cent of EDP shares in January 2015 and of a stake of over 5 per cent. of Corticeira Amorim in September 2015), as well as two exchange offers, one launched on May 2015 for the acquisition of all minority shareholders’ ordinary shares of Semapa (a listed holding company) in consideration for ordinary shares of Portucel (a paper sector listed company and controlled by Semapa). This was a transaction with some innovative features, such as being launched by the issuer itself (Semapa) and not by its controlling (or, in the case of unsolicited bids, potential controlling) shareholder, and over 51 per cent of the targeted shares were tendered. In June 2015, Mota-Engil launched a bond issue, to be partially settled with own and earlier maturing bonds and part in cash, which was also a new feature in the market. All new bonds offered were subscribed.
Other public subscription offers of bonds by non-financial Portuguese listed companies were also conducted, including by the three major listed football companies (Futebol Clube do Porto, Sporting Clube de Portugal and Sport Lisboa e Benfica – Futebol, SAD), with demand largely exceeding the offer amount.
Financial institutions also conducted several offers during 2015, for instance, BCP announced in May the launch of a partial and voluntary public tender offer for the acquisition of subordinated securities for exchange of up to 5,350 million new ordinary, nominative and book-entry shares of BCP with no par value, which was accepted near the top offer limit.
In October 2015, the Council of Ministers approved a resolution to allow Portuguese government bonds to be placed under public offer, thus allowing retail investors to become part of this market segment, so far restricted (as far as the primary market is concerned) to institutional investors.
ABS and covered bondsWe have also been seeing some activity in securitisation, with a significantly high number of deals, but each with volumes normally lower than pre-crisis levels. These are both retained and market deals, with a range of different asset classes, including electricity receivables, and with new originators accessing this product lines, as was the case of the approximately €650 million consumer credit securitisation originated by Credibom in July 2015.
Covered bonds have continued to play a role in the Portuguese capital markets, with transactions coming to market and not just being issued for retention or collateral purposes.
It is worth noting that, following the conversion of BII’s covered bonds into (simplified) pass-through covered bonds which we reported on last year, Novo Banco established, at the beginning of October 2015, a conditional pass-through covered
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bonds programme, more closely structured in line with the international precedents. Furthermore, this programme was established by Novo Banco in the form of a bridge bank, which we also see as a positive innovative feature.
Debut corporate hybrid issuanceFinally, we would highlight the recent (September 2015) €750 million subordinated notes issue by EDP, maturing in 2075, which should be the first big issue of hybrid instruments by a Portuguese (non-financial) corporate, and which could be the debut issuance of a flourishing market. The transaction was well priced for the issuer and received very interesting debt/equity treatment for rating purposes (S&P, Moody’s, Fitch), even though it is, legally and accounting wise, a debt instrument, with the frameworks applicable to such instruments applying. Portuguese insolvency laws are very flexible in allowing contractual subordination, which can be a useful tool for interest issuers. It is also possible to include coupon deferability without jeopardising the debt nature of the instrument, as in this case.
Liability management exercisesDuring 2015 the Portuguese market witnessed some transactions with the purpose of managing and restructuring the balance sheet of Portuguese issuers.
In respect of corporates (non-financial), and besides the above-mentioned exchange offer by Mota-Engil, we note the tender offer on BCR’s €600 million bonds due in 2016, launched by Barclays as offeror, and the subsequent issuance of €300 million bonds due in 2025 by BCR. We would also note the successful consent solicitation process undertaken by PT Portugal and Oi, to substitute the former with PTIF (a BV subsidiary of Oi) as issuer of notes. PT Portugal had assumed the role of issuer in the place of Portugal Telecom, SGPS (now called Pharol, SGPS) in 2014, and 2015’s consent solicitation was required to conclude the sale of PT Portugal by Oi to Altice, the biggest M&A transaction in recent years in Portugal. The process included offering a put option right to investors and adjustments to consent fee and put option settlement mechanics to the local (Interbolsa) regulations and procedures.
Portuguese listed financial companies also conducted several transactions during 2015, and we would expect more to come, particularly in the Tier 2 segment (see below, as well as the above BCP transaction).
Changes in debt securities legislationAs anticipated in last year’s chapter, the Companies Code was amended, in particular in relation to the legal regime of bonds and of preference shares.4 We summarise below the most relevant changes.
Similarly to the changes made one year previously to the legal regime applicable to the issuance of commercial paper, there are now a number of additional exceptions allowing companies to issue bonds without the need to comply with a minimum equity amount or ratio. The most significant new exception was the inclusion of a wholesale
4 Decree-Law 26/2015, of 6 February 2015.
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exemption, in line with the Prospectus Directive. Accordingly, if the bonds have a minimum denomination or placement amount per investor of €100,000, no such minimum criterion is required. The other new exception concerns qualified investor subscriptions, but this depends on the bonds not being listed, so it should be of less practical importance. On the other hand, and besides the exceptions that already existed of the company being listed or there being security or guarantees in place to the benefit of the bondholders, the legislator has clarified that under the rating exception it suffices for the issuer’s debt obligations of the same sort to be rated (no specific rating for the issue is required).
The general requirement of companies existing for over one year before the bond issuance has also fallen away if financial information on the issuer, not older than three months prior to the issue date, and audited by a certified auditor registered with the CMVM, is made available to the bondholders. This should prove to helpful when structuring acquisition finance transactions through bond issuances (and with the benefit, inter alia, of the special WHT-exemption regime applicable to bonds held by non-resident investors generally,5 but not to general foreign funders under loan agreements). It will now be possible to, very near to completion, incorporate an SPV, have its (at that stage, very simple) accounts audited, and issue the bonds to finance the relevant acquisition. In any case, the other exceptions to the general requirement remain applicable (merger or demerger with or from a longer lasting company, state ownership of the majority of the share capital or guarantee from a credit institution or the state).
Another area where significant changes were made, taking advantage of the relevant experience witnessed in the securitisation and covered bonds markets, with more flexible and updated regimes, was in the field of common representatives (CR). Portuguese law does not have the concept of ‘trust’, but taking the legal provisions and the contractual terms together, it is possible now for the Portuguese structure to be set up with not that many structural differences from the English law structure. The amendments included broadening of the list of entities that may undertake that role, which now includes, namely, the entities licensed to provide investors representation services in any EU Member State (e.g., trustees, even if not subject to licensing and/or authorisation in its home Member State). It has also been clearly established that the CR needs be an independent entity, meeting a number of criteria, and that it may be appointed in the terms and conditions of the notes. As a side note, if the CR is an entity regulated under national law, it may also be the security agent to the benefit of whom financial collateral arrangement is granted. The CR’s liability may be limited, except when acting with wilful misconduct or gross negligence; a liability cap may be included (the actual scope of the cap is subject to discussion), but may not be lower than 10 times the CR’s annual fees. These new features have already been tested and applied in practice, notably in the context of shopping mall refinancing.
Finally, and among other changes, the legislator has taken the opportunity to clarify that mandatory and reverse convertibles follow the regime applicable to convertible bonds, and that perpetual bonds follow the regime of ordinary bonds, with
5 Decree-Law 193/2005, of 7 November 2005.
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the applicable adjustments where necessary, and the regime of participating bonds has been clarified, allowing for a wider scope of bonds and participation forms.
As a side note, it is possible that Interbolsa, the Portuguese CSD, will become an Eligible Securities Settlement System for purposes of the STEP/Step Label over the coming months, which could certainly enhance the market and collateral prospects for Portuguese commercial paper issuers.
Changes in preference shares legislationAs mentioned above, the regime of preference shares has also been amended. We are only briefly referring to them, as additional changes seem to be required before this instrument can actually take effect. The minimum priority dividend to be distributed to the holders of preference shares without voting rights was reduced from 5 per cent to 1 per cent of its respective nominal (or issue) value, and it is now clear that the priority dividend can be the sole dividend payable to holders or in addition to the ordinary dividend also payable to them. Priority dividend in arrears can now be paid within three (instead of only two) fiscal years. The legislator introduced additional flexibility in respect of preference shares subscribed exclusively by qualified investors and not admitted to trading on a regulated market and included a general article allowing for the issuance of other types of preference shares, but which, considering the way in which the law was drafted, still seem to us to fall short of the real market needs.
It is possible that some legal changes will be discussed and possibly introduced to the regime of ordinary shares in the near future, including the possibility of the articles of association foreseeing multiple or double voting or other voting entitlements, which we would consider could be beneficial to attract new issuers to the stock exchange. We expect, however, that, for historical and other reasons, it will be harder to put them forward and amend the legislation. It is also possible that the preference shares regime will be further amended.
Changes in banking lawThe Credit Institutions and Financial Companies Framework was subject to two major amendments, and therefore it was republished twice (but subject to some other subsequent amendments), in particular as a result of the implementation of the latest Capital Requirements Directive (CRDIV – Basel III)6 and the BRRD. This general banking law is now much longer and much more detailed, including in terms of supervisory authorities and procedures and prudential requirements (introducing, inter alia, the capital buffers) and resolution tools. Portugal has had a resolution regime since 2012, which was actually employed last year in the resolution of BES, but now the regime is much more exhaustive, including additional resolution tools (bail-in and asset segregation and management, besides the transfer of business to existing institutions or bridge institutions which already existed) and extending the no ‘creditor’ worse-off principle to shareholders.
6 Directive 2013/36/EU.
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Own-funds regulationsWe have addressed the changes to the own funds regime in last year’s chapter, particularly under Regulation (EU) No. 575/2013 (CRR), establishing rule on common equity Tier 1 capital, additional Tier 1 (AT1) capital and Tier 2 capital.
The market for the issuance of Tier 1 and Tier 2 capital instruments is still to kick off even though Portuguese banks have already started to look into the new features for subordinated and hybrid instruments, and incorporating the same in their EMTN Programmes. There was a Tier 2 issuance made by Banif at the beginning of the year and liability managements have been made to accommodate changes to existing capital instruments.
We see it as key for the AT1 market that tax deductibility of coupon payments is fully clarified by the legislator or the tax authorities (and some clarification on the full application of the general WHT exemption regime under Decree-Law 193/2005 would also be welcomed).
Regarding the Tier 2 instruments, after discussions at EBA, the Bank of Portugal took the view in the fourth quarter 2014 that the eligibility of Portuguese Tier 2 instruments was dependent on the applicability of a deferral of payments clause. Under such clause, an issuer could decide to defer interest payments up to maturity without defaulting under the notes, which put Portuguese banks in a worse position than many of its EU competitors in the Tier 2 market, and which was a change in interpretation of Portuguese civil law.
Given this position, some EMTN programmes were actually amended to have this change included, but only one issuance, in January 2015, was made. In the meantime, and following the discussions and valid legal arguments put forward by the banking community, led by the Portuguese Banks Association (APB), the Bank of Portugal has reconsidered and in July an LME was conducted to adjust existing Tier 2 instruments to the new rules, without such deferral clause. The Bank of Portugal formally opined in writing to APB that no such clause was needed, provided that an express reference was made to Article 63, paragraph l) of the CRR, which requires that ‘the provisions governing the instruments or subordinated loans, as applicable, do not give the holder the right to accelerate the future scheduled payment of interest or principal, other than in the insolvency or liquidation of the institution.’
Finally, Tier 3 capital instruments are now being discussed in the market and debt programmes will need to be adjusted in accordance with the new requirements TLAC/CRML that shall be applicable. For now, Tier 2 languages in the terms and conditions of the programmes are being amended (to foresee the possibility of issuing instruments that rank in between senior instruments and Tier 2 instruments and that are bail-in-able ahead of senior debt) but the new issues of Tier 3 capital instruments will, in practice, depend on older Tier 2 instruments having been redeemed or discontinued.
Other banking remarksWe would also highlight, for its novelty, Law 102/2015 of 24 August 2015, regulating crowdfunding for the first time in Portugal. Crowdfunding is defined as a financing alternative for entities, their activities or projects, which involves raising investment from one or more individual investors, upon registration with (online) electronic platforms. The law identifies four types of crowdfunding, among which we would highlight
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(1) loan-based crowdfunding, where the relevant loans bear interest in favour of the lenders (so this will comprise peer-to-peer lending), and (2) equity-based crowdfunding, which enables investors to acquire, through the relevant platform, a shareholding in the relevant company. The CMVM shall issue further regulation governing both of them, and there will be a prior registration with the CMVM requirement for entities managing electronic platforms and an obligation on them to identify the relevant investment risks in equity-based or lending-based crowdfunding.
On the soft law front, the Bank of Portugal affirmed, through a circular letter of 3 March 2015, that interest rates in loan agreements, having as underlying a reference index, should follow their respective evolution, even if such evolution is negative. The Bank of Portugal based this position on particular statutes. However, the Bank of Portugal further admits that legal solutions may be implemented to overcome this effect, for instance, through derivatives.
We believe this matter will continue to be discussed, as it may impact several contracts between banks and consumers. From our perspective, one should also take into account the onerous nature of bank loans as well as other legal principles. Portuguese law expressly admits the possibility to modify the interest rate in the regime applicable to general contractual conditions. Furthermore, the Portuguese Civil Code foresees the rebus sic standibus rule. Considering the above, a negative interest rate or even zero interest scenario does not appear to us as a legitimate result, from a legal perspective, irrespectively of the negative evolution of the index and the relevant agreement being silent on this.
Even though said circular letter does not apply to bonds issuances, some bonds issuers are considering including in the relevant terms and conditions or forms of final terms, for the avoidance of doubt, that a negative or zero interest rate will not apply to such bonds. In any case, even if no such provision is foreseen, the issuer should always have the right to waive the benefit of a negative index and ascribe to it a zero amount.
The Bank of Portugal also published Notice 1/2015, which determines that, as of 1 January 2016, a capital conservation buffer of 2.5 per cent will be required, which may result in a significant impact on Portuguese banks capital demands. Also, Ministerial Order 362/2015 increased the minimum share capital for financial institutions, including credit institutions, which now have a minimum share capital of €17.5 million.
AIFMDWith quite some delay, the AIFMD7 was finally implemented in Portugal, through two separate pieces of legislation and regulation, in particular (1) Law 16/2015 of 24 February 2015 and CMVM Regulation 2/2015, governing both UCITS funds and respective fund managers and AIFs and respective fund managers (generally, including real estate investment funds), and (2) Law 18/2015 of 4 March 2015, governing venture capital and some other sorts of investment. A CMVM regulation governing venture capital was subject to public consultation, but has not yet been published. Only in
7 Directive 2011/61/EU.
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respect of (2) above did the legislator foresee a lighter regime applicable to fund managers who do not manage assets in excess of €500 million or, if leveraged, €100 million.
Even though the AFIMD addresses the regulation of the fund managers and not the funds themselves, the Portuguese legislator took the opportunity to amend a number of fund rules, with particular emphasis on real estate investment funds. We would say that the most significant changes were the amendments to real estate evaluation, shortening the general time gaps for real estate appraisals from two years to one year (for some open-ended funds, six months, and subject to a number of exceptions in all funds) and determining that the accounting value of real estate in the funds’ portfolios should be the average of the two appraisals. In this context, on 14 September 2015 a new legal regime applicable to real estate appraisers was published, unifying under one same law the requirements applicable throughout the financial sector (banking, insurance, capital markets).
Transparency DirectiveThe latest amendments to the Transparency Directive are yet to be implemented,8 but the CMVM has already released a public consultation paper and its respective results and final report and draft legislation.9 In any case, the most relevant amendment has been, in our view, already in force to a great extent in Portugal since 2010, through CMVM Regulation 5/2010, requiring disclosure of substantial economic long positions. This will now be written into the law. The consultation paper also foresees the traditional Transparency Directive custodian exemption (i.e., under which shares held as a mere custodian on behalf of clients and with no voting discretion) shall now be made clearly available. This follows the most recent practical experience with the CMVM (even in the absence of such express exemption in the law), and which will certainly be helpful to the securities custodianship business and allow for a procedural harmonisation particularly for international banks in this business. The final draft legislation foresees quarterly accounts as non-mandatory, unless listed issuers are prudentially required to prepare such accounts.
MiFID2A challenge that financial intermediaries on the securities law front are expected to face in the coming years is implementation of MiFID2.10 We anticipate and would advise this to be a gradual process, with the entities adjusting even before formal or legal implementation of MiFID2 in Portugal. One of the key areas seems to be the more demanding rules on costs, charges and (especially) inducements, and more so in respect of independent discretionary portfolio management or investment advice. Financial intermediaries may need to revisit their fee structures and arrangements in place, to avoid a negative outcome.
8 Directive 2013/50/EU, amending Directive 2004/109/EC.9 Available at www.cmvm.pt.10 Directive 2014/65/EU.
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Solvency IIThe implementation legislation of the Solvency II Directive11 was finally published on 9 September 2015 (Law 147/2015), entering into force on 1 January 2016, subject to a number of transitional provisions. The Portuguese legislator and regulator had been anticipating a number of features of Solvency II over the past few years, so in many fields the expected impact should not be as big as in some other jurisdictions. In any case, and considering, inter alia, that Solvency II focuses greatly on the market risk inherent to the assets in which insurance companies are invested in, we would expect Solvency II to have a relevant impact in terms of regulatory capital requirements imposed on the Portuguese insurance sector. This might lead to the need to set up, through the capital markets or otherwise, eligible capital instruments, to enhance Portuguese insurance companies’ capital position.
On the other hand, Solvency II heavily restricts, due to its capital charges, the investment in ABS (differently from the US, for instance), which is not welcome news when in Portugal and across the EU efforts are being made to revive the ABS market, also in the context of the Capital Markets Union initiative.
iii Cases and dispute settlement
During the past year, the swaps business has continued to be a hot topic. Banks in the Portuguese market have been contracting swaps with clients in the past decade as follows: a under Portuguese law (and jurisdiction) governed master agreement, based on the
ISDA master agreement principles, but shorter and less complex; andb under the standard ISDA master agreements.
The latter alternative has been typically followed by bigger corporates (or public sector entities, as mentioned above) with wider experience in the financial markets, while the former has been more used for smaller clients and SMEs, relatively less experienced in the financial markets, and more tempted to sue the banks when the underlying asset evolves negatively.
Highlighted case lawThe Supreme Court of Justice (STJ) decision of 10 October 2013, which we discussed in last year’s chapter, acknowledged the validity of derivative contracts and the applicability to derivative contracts governed by Portuguese law, namely between banks and SMEs, of the rebus sic standibus rule and the importance of a balanced contract. Following this decision, there has been an intense legal discussion, in courts and among scholars, regarding derivatives: whether they are not rather instruments of gaming and betting or of a merely speculative nature, with consequences on their validity. The validity of an English jurisdiction clause was also discussed.
2015 brought with it, inter alia, two landmark cases, which helped to clarify a number of questions and doubts that had been arising in the legal community, and which we think bring clarity, in the right direction, on a number of issues. Both dated
11 Directive 2009/138/EC.
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11 February 2015, the STJ affirmed, in general, derivatives as legally valid financial instruments, recognised as such in EU and national law, and thus not accepting the gaming and betting nature thereof, including where there is lack of evidence of hedging purposes by the client, on the one hand, and, on the other, the validity of clauses attributing jurisdiction to the courts of England, on the basis of the applicable civil procedure EU rules (this is particularly relevant for derivatives agreed under ISDA master agreements). We see these two decisions as an important step for the stability of the financial system and to end some of the discussions still pending relating to these matters.
First real test to fiduciary duties and business judgement rule to comeStill in the aftermath of the GES crisis, there were intense discussions and conflicts within Portugal Telecom (now Pharol), as it was found out that it had invested approximately €900 million in GES commercial paper. This led to the renegotiation of the merger terms with Oi, and is now also expected to lead to a number of litigations to be initiated against former corporate body members, including executive directors. Even though Portugal has (in the books, at least) a fiduciary duties regime at the level of the most modern jurisdictions and a business judgement rule (much in line with the US experience) in place since 2006, these rules have, however, not yet been really tested in a big case. It seems now will be the time for it, following the issuer’s shareholders’ meeting of July 2015.
v Other strategic considerations
The fact that Portugal is a small market within Europe should be taken into account when capital market transactions are undertaken. Given the size of the market and the reduced number of players, information can be expected to be quickly disseminated among relevant market operators. For the same reason, and also taking into account the most recent developments in the market and the increased public pressure on regulators (and with the BES/GES crisis, and other still very fresh cases such as the Portugal Telecom case), more intense scrutiny by supervisory authorities – including the CMVM – should be expected (prospectus review and approval, complex financial products placement and relevant documentation, rules of conduct, etc.).
Given the speed of approval of securities legislation in Brussels, in the form of regulations and directives, a cautious regulatory approach should be taken, as the legal regime is constantly subject to changes. In any case, there is great expectation regarding the developments and outcome of the Capital Markets Union initiative from the European Commission, particularly considering that Portuguese companies are very highly dependent on banking credit, while Portuguese banks are still facing significant challenges and needs for deleverage.
III OUTLOOK AND CONCLUSIONS
As mentioned, Portugal has exited the Economic Adjustment Programme, but it is still a challenging environment. This is also, however, a time for opportunities, as the increased activity in the Portuguese M&A market shows. This new environment also brings
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new legal challenges, but they will certainly not be an obstacle to executing interesting transactions in the market.
Finally, there is likely to be increasing securities law litigation in the courts from retail investors, subordinated creditors and shareholders, but also from senior creditors affected by developments in the market in the past couple of years.
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Chapter 26
RUSSIA
Vladimir Khrenov1
I INTRODUCTION
i Overview of the structure of the law
While Russian capital markets regulation has come of age after more than two decades of rapid – and at times erratic – development, it still has some way to go before it reaches maturity. The process of Russian capital markets regulation started with the dismantling of the centrally planned Soviet economic model during the last decade of the twentieth century, and a search for the most suitable market-oriented substitute for a defunct legal and regulatory regime. Apart from some scant financial market concepts and terminology antecedent to the Bolshevik revolution of 1917, Russian law provided little (if any) frame of reference needed to jump-start market reforms. The legislative reforms of the 1990s were heavily influenced by the US model of securities regulation, which at the time was given credit for governing the most liquid and efficient capital markets in the world. Russian financial regulation has since been decoupled from the US model proper, while largely following international trends. Recent years have seen significant strides made with the view of expanding the product line of financial instruments and enhancing discipline in financial markets. Some other initiatives and commitments, including those taken within the G-20 process, are still works in progress.
The centrepiece of Russia’s capital markets regulatory framework is the Federal Law on the Securities Market (the Securities Market Act). The first version was enacted in 1996 and has since been amended more than 40 times, including in 2014 as discussed in more detail below.
The Securities Market Act:a defines the scope and types of regulated market activities;b establishes broad principles applicable to the various categories of regulated
market participants;
1 Vladimir Khrenov is a partner at Monastyrsky, Zyuba, Stepanov & Partners.
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c defines the various types of securities as well as the procedure for their issue and distribution;
d sets out general rules applicable to secondary market trading activities;e sets out standards for continuous disclosure;f regulates exchange trading;g prohibits insider trading;h defines repo transactions and derivative instruments;i sets out the main principles of government regulation of the securities market;
andj bestows regulatory and supervisory authority on the Bank of Russia.
In addition to the Securities Market Act there exists an interwoven web of other laws and regulations that influence the behaviour of market participants, including:a the Civil Code;b the Law on Joint Stock Companies; c the Law on Organised Markets; d the Law on Commodity Exchanges and Exchange Trading; e the Law on Central Depository; f the Law on Clearing and Clearing Activities;g the Law on Protection of Legal Rights and Interests of Investors in the Securities
Markets; h the Law on Crackdown Upon Unlawful Use of Inside Information and Market
Manipulation; i the Law on Mortgage-Backed Securities; j the Law on Investment Funds; andk the Law on Private Pension Funds.
In addition, a myriad of regulations are being passed, amended, repealed and superseded by new regulations on a continual basis.
ii Regulation of international capital market transactions
Russian legislators and financial regulators have long been concerned with finding an equilibrium between ensuring access to international capital markets for Russian issuers and preventing the liquidity drain to foreign markets. Measures to find such a balance include, most notably, a requirement for a Bank of Russia pre-approval of an offshore securities issue by a Russian issuer. Such pre-approval for equity securities is further conditioned upon (1) the state registration of the new issue of securities in Russia, (2) the securities being listed on a Russian exchange, (3) the number of shares traded outside of Russia not exceeding a prescribed ceiling (varying between 5 per cent and 25 per cent, depending on a number of factors, including local free float, Russia’s strategic interests, inter-regulator agreements), and (4) restriction on the exercise of voting powers by any persons other than the security holders. Notably, however, the quantitative restrictions on the number of shares available for an offshore offering by the most liquid Russian issuers do not apply, provided that the offering meets certain additional requirements.
Foreign issuers are also restricted in their ability to tap into Russian capital markets, although in a different manner. Securities issued by foreign issuers may be eligible for
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trading in Russia if certain requirements are met. First, securities issued by foreign issuers must be assigned a CUSIP and a CFI code and recognised as ‘securities’ for Russian law purposes following a specified procedure. Second, they must be issued by a ‘qualifying issuer’, which term is defined to include:a a qualifying foreign sovereign or its administrative subdivision or a foreign central
bank;b a qualifying multinational organisation;c an entity incorporated in an OECD, FATF or MONEYVAL member state, or in
a jurisdiction whose financial regulator has signed a cooperation agreement with the Bank of Russia; or
d an entity that has listed its securities on an exchange approved by the Bank of Russia.
Placement (i.e., offering in the primary market) of securities issued by foreign issuers requires registration of a prospectus by the Bank of Russia. In most cases, such prospectus must be co-signed by a local broker that also assumes liability for the contents of the prospectus. By contrast, admission of foreign securities for trading in the secondary market may be effected without the registration of a Russian prospectus if such securities are listed on an eligible foreign exchange and are provided a dual listing by a Russian exchange. Any other offering of or trading in foreign securities requires specific permission from the Bank of Russia which should generally be granted if certain criteria are met. The Securities Market Act allows admission to exchange trading of unsponsored foreign securities without the issuer’s consent, provided that such securities are admitted to on-exchange trading outside the exchange’s principal listing but that such securities have been included into the primary listing of an eligible foreign stock exchange (this latter requirement may be disapplied for debt securities) and that such securities are not restricted from public offering in Russia under their governing law. To date, however, the number of foreign securities distributed or admitted to trading in Russia (including in the form of Russian depository receipts) remains insignificant.
Foreign securities that have not been admitted for distribution or public trading may be offered to qualified investors through a bilaterally negotiated secondary market transaction. Similarly, ‘foreign financial instruments that are not recognised as securities’ (for Russian law purposes) may only be offered to persons who are ipso jure qualified investors (various types of regulated financial institutions) or have been categorised as ‘qualified investors’ by a Russian broker. This awkwardly phrased provision, which amounts to a suitability-like selling restriction, has resulted in a caution-driven choice by most international dealers to have their cross-border derivative transactions with unregulated Russian corporate clients intermediated by a local broker. Because the term ‘foreign financial instrument’ is undefined and the regulator has to date declined to provide any interpretative guidance on its definition, these burdensome structures (which increase transaction costs and may limit the throughput capacity of a local broker) tend to be used for all underlying assets involving foreign currency, securities or other benchmarks. The choice to use a local broker also often stems from the lingering uncertainty over the enforceability of cross-border cash-settled derivative transactions with Russian unregulated entities under the gaming provisions of the Russian Civil Code.
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The measures designed to lower the entry barriers for foreign securities into the domestic market were mirrored by the changes to liberalise the outbound flow of securities trading flows. Most importantly, the recognition of the status of foreign nominee holders of securities (even if by way of a phase-in approach sequentially encompassing government and corporate debt securities and equities) and the creation of a central depository are designed to streamline the infrastructure for a seamless cross-border flow of interests in securities and facilitate offshore trading in Russian securities.
iii Respective roles of local agencies and central banks
Historically, the regulatory landscape represented a patchwork of rulemaking and oversight jurisdictions of a number of government agencies. Over time, however, the regulatory functions came to be concentrated first within two principal agencies – the Federal Financial Markets Service (FFMS) and the Bank of Russia, and then since 2013 – at the Bank of Russia.
During the period of regulatory duopoly, which lasted until 1 September 2013, the principal regulatory body for capital market activities was the FFMS. The Securities Market Act delegated a considerable amount of authority to the ‘federal executive agency for the securities market’ – a role played for many years by the FFMS – in relation to both rulemaking and oversight over the activities on financial markets, except for banking, insurance and audit activities. The federal executive agency for the securities market set the rules applicable to the distribution of securities, registered prospectuses of issue of securities by non-bank issuers (except sovereign and sub-sovereign issuers), as well as taking enforcement action against delinquent issuers. With respect to regulated market participants, it set out regulatory requirements for professional securities market activities, defined capital requirements, granted licences to engage in regulated activities as well as enforced regulatory requirements against non-compliant firms.
The Bank of Russia, for its part, determined the procedure for the issue of securities by credit organisations and registered their prospectuses. It had the oversight authority over banks, including over banks’ investment activities on the capital markets. It had a limited rule-making jurisdiction over the banks’ fiduciary asset management activities, and prescribed the rules applicable to custodian activities. Through its equity stake in the principal market infrastructure projects (such as the Moscow Exchange, formerly MICEX) and its leverage as a bank regulator, the Bank of Russia had the ability indirectly to exercise considerable influence on the functioning of the market. All of these factors, viewed against the backdrop of the dominant role played by banks in many sectors of the Russian capital markets, made the Central Bank a powerful player in the regulation and monitoring of domestic capital markets in Russia even during the period leading up to September 2013.
On 1 September 2013, however, the regulatory jurisdictions of the FFMS and the Bank of Russia were merged, the FFMS was dissolved and the Bank of Russia assumed the overall regulatory and supervisory jurisdiction across all market segments thus becoming the single ‘mega-regulator’. To ensure continuity, the core FFMS staff members were transferred to the newly formed regulatory arm of the bank – the Financial Markets Service of the Bank of Russia. The first two years of its existence, despite some inevitable settling-in period, shows that continuity is, indeed, being largely maintained.
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iv Structure of the courts
The Russian court system comprises the Constitutional Court, courts of general jurisdiction, state commercial courts (arbitrazh courts) and military tribunals. As a general rule, disputes involving natural persons are adjudicated by the courts of general jurisdiction. Commercial disputes between legal entities or registered entrepreneurs are adjudicated by the arbitrazh courts. In addition, certain categories of disputes fall within the subject matter jurisdiction of the arbitrazh courts irrespective of the identity of the disputing parties: all insolvency cases, corporate disputes (including derivative lawsuits, challenges to corporate governance actions and other causes of action affecting shareholders’ rights), claims against securities custodians and certain others. Given substantial interest on the part of financial institutions to enter into complex financial transactions with high net worth individuals, suggestions have been made that the above list should be expanded to include financial market disputes within the exclusive subject matter jurisdiction of the arbitrazh courts, which are far better equipped to handle them than the courts of general jurisdiction, but such change is yet to be implemented.
There are more than 80 arbitrazh courts at the trial level across Russia (i.e., courts of the first instance), each covering a geographically defined judicial district. These courts handle both the trial per se and the first level of the appeal process. The appellate division is composed of different judges of the same court. The next level of the appeal process – the cassation division – is made up of 10 federal circuit courts that have appellate jurisdiction over the decisions rendered by the appellate division of the arbitrazh courts within the relevant judicial circuit. Finally, the Supreme Court is the highest state court in Russia for both the courts of general jurisdiction and – since 2014 – the arbitrazh courts, and has the ultimate (but largely discretionary) appellate jurisdiction over cassation decisions, as well as the original jurisdiction over a limited number of matters.
The internal structure of the arbitrazh courts often accommodates the need for specialist expertise in various areas of commercial disputes. Panels specialising in corporate law, insolvency and other matters are often created within the structure of the courts. Since 2012, special financial panels have been created in a number of courts in key financial centres, including the Arbitrazh Court for the City of Moscow and the Federal Arbitrazh Court for the Moscow circuit. This was the judiciary’s response to an ever-increasing complexity of recognised financial instruments that recent regulatory developments have spawned in the Russian capital markets.
v Trends reflected in decisions from the courts and other relevant authorities
The trends reflected in the recent legislative amendments and the actions by the Bank of Russia indicate a policy of promoting further integration of domestic financial markets into the international network while gradually lowering protectionist barriers for both inbound and outbound investments. Recognition of foreign nominees (a status long denied to foreign brokers, custodians and other nominee holders), Russia’s commitment to the G20 financial regulatory reform objectives, introduction of new concepts such as SPVs, securitisation, note issuance programmes, asset-backed securities, escrow accounts, recognition of close-out netting, further liberalisation of foreign exchange controls, and large scale amendments to the Civil Code (as discussed below) friendly to financial market transactions are the latest manifestation of the trend. Simplification of the procedure for issuing new securities in the domestic market and introduction of additional protections
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to bondholders also represent long-awaited market-friendly measures designed to encourage companies to tap the securities markets amidt diminishing liquidity in the domestic capital markets.
II THE YEAR IN REVIEW
2015 has been a year that saw Russian capital markets being affected by opposite forces. On the one hand, the statutory and regulatory reforms referred to in the previous section and described in more detail below have laid a foundation for a quantum leap of market activities and a new level of complexity of financial techniques and instruments available to the market participants. These developments, however, have largely been eclipsed by the imposition in 2014 of international sectoral sanctions affecting, inter alia, the ability of some of the largest players in the Russian financial and energy sectors to issue new debt and equity securities or otherwise raise capital in international financial markets. Complying with the existing sanctions and apprehensive of more sanctions to come as a result of an escalation of geopolitical tensions over the situation in Ukraine, most international financial institutions have sharply curtailed their dealings with Russian counterparties thus bringing the cross-border capital market flows for new issues to a virtual halt. Predictably, this had a knock-on effect on local market flows and liquidity, particularly in non-rouble currencies. 2015 offered no indication that the sanctions are likely to be softened or lifted in the near term. The mid- to longer-term effect of the international sanctions on Russian capital markets – both local and cross-border – is hardly capable of being accurately assessed at the time of writing as much will depend on how the situation in Ukraine will evolve and whether the sanctions will be tightened or relaxed as a result.
i Developments affecting financial market transactions
The most significant statutory changes affecting the financial markets in Russia in 2015 consisted of a block of amendments to the Civil Code. Such amendments will significantly facilitate the use in domestic market transactions governed by Russian law of mechanisms and safeguards commonly used in international financial transactions. The Civil Code, as amended, now allows parties to a transaction to establish a waterfall of payments by means of an inter-creditor agreement (a feature long awaited in the syndicated loan and structured finance markets). The Code now introduces new types of credit enhancement such as title transfer security and independent guarantee. Title transfer security arrangements can be used in relation to a monetary obligation and include cash or securities as collateral. Upon default or as may otherwise be provided in the security agreement, the amount of previously transferred collateral is credited towards the relevant obligation. Independent guarantee – which previously could only be issued by a licensed bank – can now be issued by any commercial organisation and, unlike the position in the past, would not be ultra vires for a non-bank guarantor. The Code now contains a provision dealing with ‘conditional performance of a contractual duty’, which allows the parties to condition performance, modification or termination of their contractual duty upon taking of, or forbearance from, certain agreed actions or the occurrence of a circumstance that the relevant contracting party has the ability to influence or cause to occur. This change relieves previously existing concerns that any
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such contractual provision would be construed as an invalid condition precedent or condition subsequent (which under the previous version of the Code could not include circumstances that the relevant party could control or influence). The Civil Code, as amended, contains a set of provisions that protect an indemnity arrangement between the parties. Previously, the Code only entitled a contracting party to claim damages upon showing the other party’s fault (negligence or intent) in performing its contractual duties. No-fault liability was not recognised in the context of contractual relationships. Directly relevant to financial markets, the Code, as amended, introduces the concept of a master agreement governing multiple transactions between the parties. It also introduces the concept of an option agreement which can be either deliverable or cash-settled. The new amendments also expressly set forth the concept of contractual representations and provide that a breach of a representation may entitle the other party to claim damages or a contractually agreed penalty or to rescind the contract.
The Securities Market Act was likewise subject to a slew of amendments in 2015, albeit less fundamental in their impact than those to the Civil Code. The bulk of the changes pertain to a more detailed regulation of registrars and foreign nominee holders. One of the thorny issues for the Russian regulator for a number of years has been the transparency in the chain of custody of Russian securities held through foreign street names (custodians or nominees). The Securities Market Act, as amended, now requires that foreign nominee holders take all reasonable measures to provide the Russian custodian the information on the identity of the security holders. The amendment, however, goes on to relieve the nominee holder of liability for failure to provide the requisite information on the holdings of its clients if such failure is a result of the client’s failure to provide such information to the nominee. By way of sanctioning a recalcitrant security holder for failure to disclose information on his or her identity to the nominee the amendment denies such security holder the right to exercise any entitlements arising from of the relevant security. The amendments to the Securities Market Act also put a special emphasis on robust compliance, internal control and risk management functions within the organisational structure of regulated market participants. Also, one of the long-awaited breakthroughs in the securities market regulation in 2015 has been recognition in the Securities Market Act of a special status of individual investment accounts. Such accounts are designed to attract retail clients to invest savings on the securities market.
Finally, the Securities Market Act now expressly recognises title transfer collateral arrangements under derivatives master agreements.
ii Bankruptcy
2015 saw a major overhaul of the bankruptcy legislation in Russia. The two statutes that previously governed the bankruptcy proceedings of banks and non-banking organisations have now been merged into a single statute. The new law contains detailed sets of rules applicable to bankruptcy proceedings affecting various types of economic actors, including various types of regulated financial entities such as banks, brokers, dealers, asset managers, clearing houses, insurance companies, private pension funds and some others.
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iii Developments affecting derivatives, securitisations and other structured products
Close-out nettingThe Russian close-out netting legislation came into effect on 11 August 2011. The recognition of close-out netting was accompanied by a number of other important measures that rewarded the industry’s push for an overhaul of the regulatory framework applicable to OTC derivatives. Such measures included:a an amendment to the gaming statute designed to provide a safe harbour to eligible
derivative transactions; b the introduction of a definition of ‘financial derivatives’ to the Securities Markets
Act; c express recognition of a single master agreement that may govern multiple
derivatives or repo transactions; d amendments to the Tax Code allowing more flexibility to end users for hedge
accounting and deductibility of losses; and e liberalisation of foreign exchange controls to allow foreign currency settlement
under local market derivative transactions.
The Insolvency Act (Federal Law No. 127-FZ) (as amended) provides that:
[…] obligations arising out of contracts governed by a master agreement (single agreement) which corresponds to the model terms envisaged by [the Securities Market Act] (hereinafter – financial contracts) shall terminate in accordance with the procedure envisaged by said master agreement (single agreement) […] Such termination shall give rise to a monetary obligation the amount of which is to be determined in accordance with the procedure envisaged by the master agreement.
The principal reason for the delay in passing the netting legislation was mistrust on the part of some Russian authorities for the potential for abuse created by netting. Such mistrust is not unjustified as it is rooted in the recent history of bankruptcies of some Russian banks and corporate entities tainted by alleged and proven fraud and asset stripping. To address these concerns, the netting legislation has a number of built-in systems designed to ensure that the close-out mechanics are fair to the debtor’s estate and have sufficient safeguards against retroactive changes to the transaction terms intended to create an out-of-the-money position for the debtor, which can then be netted against a creditor’s liability.
Under the Russian Civil Code, the model terms of a contract refer to a set of published standardised contractual provisions incorporated by reference into an agreement between the contracting parties. To be eligible for close-out netting under the Insolvency Act, such model terms must either be developed by a Russian self-regulatory organisation and approved by the Bank of Russia, or be developed by an international organisation from a list approved by the Bank of Russia. This limitation is designed to stem the uncontrolled proliferation of netting-eligible master agreements and keep the contents of such agreements in line with what the regulator recognises as legitimate market practice. Russian agreements approved to date include:
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a the 2011 Model Terms of Financial Derivative Transactions jointly published by the National Stock Market Participants’ Association (NAUFOR), the Association of Russian Banks (ARB) and the National Foreign Exchange Association (NFEA); and
b the master agreement for domestic repurchase transactions published by the National Stock Market Association.
Eligible international agreements include pro forma master agreements published by ISDA and ICMA, provided, however, that certain changes are introduced through a schedule to the relevant master agreement to make it fully compliant with the Insolvency Act.
The scope of netting-eligible transactions is limited to ‘financial contracts’ defined to include repos, financial derivatives and ‘other agreements the object of which is foreign exchange or securities’. The definition of a repo in the Securities Market Act is not dissimilar to what is generally understood to constitute a repo transaction in the international financial markets. Financial derivatives are defined in the Bank of Russia Regulation No. 3565-U to comprise:a cash-settled or deliverable swap transactions with payouts linked to a change in
the price or level of an eligible underlying asset (price of commodities, securities, interest rates, foreign exchange rates, inflation rate, credit and potentially others);
b put and call options (including swaptions) on an eligible underlying asset; andc deliverable forward-settling transactions that the parties have expressly chosen to
have treated as financial derivative transactions.
The third subset of nettable financial contracts, which includes non-derivative transactions with foreign exchange and securities, will, however, remain the cause of uncertainty until more clearly defined. While the original intent of the drafters was to extend the netting regime from repos and derivatives proper to similar transactions with a shorter settlement cycle (such as spot foreign exchange and cash equity transactions), the unqualified reference in the law to agreements involving foreign exchange or securities leaves open the question of how far the confines of the netting regime can be stretched beyond traditional derivatives.
Credit support arrangements such as a title-transfer credit support annex should be protected by the close-out netting regime, particularly in light of the 2015 amendments to the Securities Market Act which now recognise title transfer security arrangements.
The netting regime applies to pre-insolvency transactions (the cut-off point is defined slightly differently for various types of debtors), thus disqualifying from close-out netting any transaction entered into after the commencement of an insolvency proceeding. One of the parties to a qualifying transaction must be a financial institution (Russian or foreign), a central bank (Russian or foreign) or a multilateral financial organisation. The Insolvency Act thus disqualifies transactions between unregulated entities and transactions with natural persons, which reflects a long-standing politically sensitive policy of discouraging derivative transactions with individuals (which, to the disappointment of the sell-side institutions, does not carve out high net worth individuals).
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Finally, to qualify for close-out netting, a transaction must be reported to, and registered by, a Russian trade data repository (see the next section for a more detailed discussion). As of the time of writing, repos and foreign exchange swaps are capable of being reported to the National Settlement Depository (see the next section for a more detailed discussion). Provided that other requirements set out above are met, such transactions would already be capable of being terminated on a net basis.
In 2013, ICMA published a netting opinion for repo transactions governed by the Global Master Repurchase Agreement. An ISDA netting opinion was published in February 2015, while the collateral opinion is still pending.
Trade data repositoryBy far the most controversial feature of the Russian netting regime is the set of regulations applicable to trade data repositories. As a safeguard against tampering with transaction records, the new regulatory regime requires that repos, derivative transactions and agreements ‘the object of which is foreign exchange or securities’ be reported to a recognised Russian trade repository.
In 2015 the Bank of Russia amended its regulation on trade data reporting. While some traits of the pre-existing reporting regime were significantly enhanced, the new version still bears some of the birthmarks of the original FFMS regulation that caused significant discomfort among market participants. Broadly speaking, this reporting regime is consistent with Russia’s G20 obligations under the Pittsburgh Protocol, although it is worth noting that in some respects, Russia’s reform at this stage is somewhat milder than the G20 parameters: specifically, due to the structure of Russia’s OTC market, with little volume of electronic trading, the draft regulation does not envisage real-time reporting and requires submission of new data within three business days following the reportable event. Furthermore, as restated, the regulation imposes the reporting obligation only on the regulated entity (such as a broker, a dealer, an asset manager, etc.) that is a party to a reportable transaction. (It would be premature, however, to rule out the possibility that the Bank of Russia will amend the regulation to extend the reporting obligation to active unregulated market participants akin to NFC+ under the EMIR rules.)
There are, however, certain features of the new regime that go beyond Russia’s international commitments and are a product of an inter-agency compromise reached in the lead-up to the netting reform. The most troublesome, from the market’s perspective, until recently was the provision in the regulation that in the event of a discrepancy between the transaction documentation and the record in the repository, the latter will prevail for the purposes of calculating the close-out amount upon insolvency of a party. This requirement upped the ante tremendously for what otherwise should be a mundane operational routine. 2015 saw this provision finally removed from the regulation and the record in the trade registry no longer has priority over the contractual documentation. This requirement, however, is widely expected to be removed in the new draft law on repositories.
Another shortcoming of the new regulation on repositories was a blind spot that it had for a situation where a transaction or a ‘life cycle event’ must be reported by both parties, but one of the parties fails in its duty to send in a report either through negligence or sabotage. This oversight in the regulation was not minor, given that an unmatched report from a party could not be registered by the repository and was likely to be
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disregarded for netting purposes. This risk has been alleviated in the restated regulation for client transactions, which now may be reported by the dealer singlehandedly but remains to be addressed for inter-dealer transactions as well as for situations where failure to report occurs on the part of the dealer reporting a client transaction.
Another concern expressed by the international banks is that Russia does not recognise records kept by foreign repositories as compliant with the Russian reporting requirements. While Russia is not alone in imposing a local repository on the market, the reporting protocols must be streamlined on an international basis to avoid unnecessary transaction costs and facilitate global monitoring of pressure points in the financial system. Also, the scope of the reporting obligations may be broader for Russian market participants than their counterparts in other countries given that it applies to repos and certain non-derivative transactions. An ISDA working group was working throughout 2014 with the Russian repositories with the view to ensuring consistency between the data fields in its reporting protocol FpML and the Russian reporting standards.
Credit derivativesA Bank of Russia regulation on the types of financial derivative instruments – as amended in 2015 – now accommodates the use of credit default swaps in the domestic market. This development goes in line with the publication earlier in 2015 of the credit derivatives definitions for use with the Russian industry-standard derivatives master agreement.
Standard contract documentationThe last week of 2011 was marked by the approval by the FFMS and the publication of a new version of the model terms of a contract (a pro forma master agreement) for domestic derivatives transactions. The agreement is a revised version of the 2009 Model Terms of Financial Derivative Transactions jointly developed by NAUFOR, ARB and NFEA. The 2011 version contains amendments required by the Securities Market Act and is netting-compliant for the purposes of the Insolvency Act. A barely retouched 2011 version of the product annexes, covering such underlyings as foreign exchange, interest rates, equities and fixed income securities, has also been published. By contrast, the credit support annex has undergone some more noticeable changes designed to ensure netting-eligibility of margin amounts. However, in light of this year’s amendments to the Securities Market Act now expressly recognising title transfer security arrangements it would appear desirable to adjust the credit support annex to the new rules thus ensuring that the annex falls within the purview of the Act.
Given that approval by the regulator of the model terms of a contract is a prerequisite for netting eligibility of the transactions governed thereby (and, accordingly, for a more favourable capital treatment for regulated entities), the local derivatives market can be expected to largely migrate from bespoke master agreements to the industry-standard form, to the extent that any of the market players have not done so already.
In the past two years, NAUFOR, ARB and NFEA published the commodity definitions to be used in conjunction with the local master agreement as well as a set of definitions covering non-Russian equity and fixed income securities. In 2015, the credit derivatives definitions were published to complete the current set of underlying asset classes.
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The Russian standard contract documentation for derivative transactions largely follows – with ISDA’s permission – the architecture of the ISDA master agreement and the ISDA product definitions to ensure consistency with the international OTC derivatives market and reduce the basis documentation risk between local market and cross-border transactions.
iv Cases and dispute settlement
2015 has been remarkable not so much for the cases affecting financial transactions that have been adjudicated but for the lack thereof. Against the backdrop of geopolitical tensions, the Russian economy over the past year has seen unprecedented volatility in the foreign exchange rate of its domestic currency which translated into a dramatic shake-up of other sectors of the financial markets. Funding and liquidity sources have been disrupted both for the sanctioned financial institutions and industrial companies as well as for non-sanctioned borrowers that have seen their relationship banks tighten the credit standards. The financial condition of many borrowers was tested and in some cases failed to withstand the new economic pressures pushing them into bankruptcy or forced sale. Yet, these factors have not yet translated into litigation – insolvency-related or otherwise – over issues affecting financial markets on a large scale. Even the controversial issues that ever since the judgments in the UniCredit litigation of 2012–2013 have been hanging as a Damocles’ sword over outstanding derivative transactions failed to have been resuscitated by other litigants.
By way of a reminder, the case that caused the most consternation in 2012 involved the Russian subsidiary of UniCredit Bank (the Bank) and one of its clients (Hermitage Development) over a single currency fixed-for-floating interest rate swap transaction. The transaction was governed by a bespoke form of the master agreement developed and used by the Bank for derivative transactions with clients. As is typical for Russian market practice, in addition to the parties’ right to close-out outstanding transactions as a result of an event of default, Article 12.3 of the master agreement contained a general termination provision that gave either party the right unilaterally to terminate the agreement early at any time, provided that at the time of such termination no unperformed obligations between the parties under the agreement exist. The swap was initially intended to hedge the client’s liability under a loan facility in the amount of US$60 million, which attracted floating interest at LIBOR plus an agreed spread. Before the loan drawdown, the parties entered into a US-dollar interest rate swap for a notional amount of US$60 million with a scheduled maturity date of 29 August 2013. Subsequently, the parties agreed to downsize the facility to US$37 million, but the Bank refused to accommodate the client’s request to make a corresponding reduction of the notional amount of the swap. As LIBOR continued to slide, the client’s losses under the swap continued to grow. Finally, on 3 August 2011 the client unilaterally terminated the agreement, invoking Article 12.3.
The trial court, the appellate division and the Federal Arbitrazh Court for the City of Moscow judicial circuit have all upheld the termination as proper despite the Bank’s objection that, while the swap remains outstanding, Article 12.3 may not be invoked as grounds for termination. All three courts ruled independently that an obligation under an interest rate swap transaction may not be viewed as ‘unperformed’ until after it has
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crystallised and the liable party has failed to perform it. Because the nature of the parties’ obligations under a single currency interest rate swap is such that neither the amount of the next payment nor even the payer are known until the next rate fixing date, the parties’ obligation may not be considered ‘unperformed’ and as such prevent either party from relying on Article 12.3. The Supreme Arbitration Court declined – albeit purely on procedural grounds – to revisit the lower courts’ decisions.
A second dispute occurred in 2013 under a similar master agreement and involved another UniCredit client which also successfully terminated an out-of-the-money interest rate swap relying on identical arguments.
The most disconcerting aspect of the UniCredit decision is that, while the disputed transaction was governed by a bespoke master agreement, a similar termination clause is contained in the market standard form of the master agreement and in many bespoke agreements used in the market. The concern, therefore, was that the UniCredit decision may reverberate throughout the market, thus exacerbating the legal risks of trading derivatives in Russia’s fledgling OTC market. So far, however, despite the economic difficulties encountered by Russian companies over the past year, this concern has proven to be unsubstantiated.
Likewise, bankruptcy cases that could have shed light on insolvency treatment of close-out netting or clawback powers of a bankruptcy administrator in relation to transfers during the applicable suspect periods have not done so. As of the time of writing, however, a lawsuit challenging the enforceability of a swap on the grounds of misselling and breach of good faith by the dealer has been filed against one of the largest Russian banks. A judgment is not likely to be rendered before the middle of 2016.
v Relevant tax and insolvency law
One of the major impediments to the development of the derivatives markets – both domestic and cross-border – has been the uncertain, and often market-unfriendly, tax regime applicable to derivative transactions. The section of the Russian Tax Code governing taxation of repo and derivative transactions recently underwent a significant overhaul designed to create a tax environment conducive to the development of this market. The amendments came into effect on 1 January 2010.
As amended, the Tax Code now more clearly defines which instruments qualify for a special tax regime applicable to derivative instruments. With the exception of weather derivatives and transactions referenced to official statistical data (and, in the case of transactions with natural persons, credit derivatives), all transactions that fall within the definition of derivatives under the Securities Markets Act enjoy the special tax regime. Cash-settled derivatives are treated as derivatives in all circumstances, while deliverable transactions enjoy the same treatment if the parties made the relevant election in their accounting policies. Dealers are allowed to deduct derivatives-related losses from their overall income tax base. Non-dealers calculate their tax liabilities for derivatives-related income (or losses) separately from the rest of their activities. Importantly, the amendments have substantially liberalised the rules applicable to the treatment of hedging transactions, thus allowing the taxpayer significantly more flexibility in determining its hedging strategies.
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vi Role of exchanges, central counterparties (CCPs) and rating agencies
The role of the stock exchange for the Russian market is paramount. In the absence of alternative trading systems (including non-exchange electronic venues such as ECNs or MTFs), the Moscow Exchange is the principal cluster of liquidity for the cash equities and fixed-income markets. The on-exchange derivatives market trades across all assets classes (with the exception of credit) and serves as the principal forward price benchmark for the relevant underlying assets and indices not only for commercial, but for tax and accounting purposes. The OTC segment is either very small relative to the exchange-traded market (e.g., derivatives on equity or fixed income securities) or offers products that are not yet offered by the exchange (e.g., interest-rate swaps or cross-currency swaps). In that sense, the exchange-traded and the OTC markets are largely complementary at this time rather than competitive.
Commodity exchanges, despite a commodity-oriented structure of Russia’s economy, have struggled to justify their raison d’être for the past 10 years. The liquidity continues to be insignificant as most commodity producers prefer to enter into direct offtake relationships with the buyers. A new thrust to the development of organised commodity markets was given with the establishment of the St. Petersburg International Mercantile Exchange (SPIMEX) in light of the new legislative regime designed to bring transparency to the commodity markets by compelling mandatory transaction reporting to a commodity exchange even for OTC sale contracts. SPIMEX has developed a series of indices this year for various groups of commodities that have been included as commodity reference prices in the commodity annex to the Russian standard OTC derivatives documentation.
While Russia has committed to ensure CCP clearing of all standardised derivatives under the G20 Pittsburgh Protocol, it is not yet mandating central clearing of OTC derivatives. The very notion of a central counterparty clearing has only appeared for the first time in Russian law in 2012 with the adoption of the Law on Clearing. Although the Law on Clearing provides some basic protections to CCPs, all the issues that are currently discussed and grappled with by both regulators and various CCPs throughout the world will need to be thought through from scratch for the Russian market (e.g., which model of segregation can be accommodated under Russian law, risk management procedures, loss mutualisation, client clearing documentation, etc.). This notwithstanding, the Moscow Exchange now provides central counterparty clearing for OTC interest rate swaps, foreign exchange swaps and cross-currency swaps, although the clearing volumes remain low. Once the teething problems of the trial period have been resolved, the Bank of Russia intends to make clearing of such contracts mandatory. The first phase will not include client clearing although attempts by the financial industry to develop a client-clearing addendum to the standard OTC documentation are under way.
The role of the leading global rating agencies is fairly limited in the Russian domestic market but obviously affects Russian borrowers and issuers that have tapped the international markets. Attempts to create domestic rating agencies (including as a policy measure designed to create a counterbalance to US-based rating agencies) have so far enjoyed a limited success but have been reinvigorated in light of the geopolitical tensions.
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The Bank of Russia announced in July 2015 that a new national credit rating agency will be established with the capital of 3 billion roubles evenly divided among investors and a cap of 5 per cent on an individual ownership stake.
III OUTLOOK AND CONCLUSIONS
While the legislative reforms of the past few years represent a pivotal change in the regulation of the capital markets in Russia, the success or failure of such reforms may only be judged with time. The principal litmus test of whether the decisions made were the right ones will be the sustainable growth and sophistication of the capital markets. Currently, however, the accuracy of such litmus test is compromised by the challenging political situation that Russian has found itself in over the situation in Ukraine. The new regulatory paradigm which has begun to take shape with the legislative and regulatory progress, the creation of a mega-regulator and the ongoing implementation of the G20 reform measures is now facing a strong headwind in the form of political tensions. The imposition in 2014 of politically motivated financial sanctions against some of the leading Russian companies and their continued effect in 2015 are bound to leave an imprint on how Russian capital markets will develop in the short to medium term. Reorientation towards other markets and funding sources unaffected by the current sanctions regime and supplanting cross-border flows with domestic growth require time. In the meantime, if the current breakdown in the economic and financial integration between the Russian and the global financial markets continues, the local markets’ growth prospects are likely to be subdued for some time to come.
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Chapter 27
SOUTH AFRICA
Clinton van Loggerenberg and Stephen von Schirnding1
I INTRODUCTION
South Africa is, by most measures, Africa’s largest economy. It is ranked 29th in the world in terms of GDP, based on purchasing power parity in the IMF’s World Economic Outlook dated April 2015, and has positioned itself as a market leader in implementing a regulatory framework through which the Basel III requirements can be effected. With banking and financial services sectors that are regularly ranked in the global top 10 in several key categories in the World Economic Forum’s Global Competitiveness Report, and a sophisticated financial market that is relatively liquid, well regulated and underpinned by a robust common law-based legal system, it is with good reason that South Africa is considered the gateway to Africa.
II THE YEAR IN REVIEW
i Developments affecting debt offerings
Debt capital marketThe South African debt capital market is highly regulated and provides for all types of debt instruments, ranging from conventional debt instruments such as listed and unlisted corporate bonds to more complex classes of securities such as asset-backed securities, structured notes and securitisations. The nature and extent of regulation depends on the nature of the issuer and the type of debt instrument to be issued.
Banks ActA person or entity not licensed as a bank under Act No. 94 of 1990 (the Banks Act) is not permitted by South African law to conduct ‘the business of a bank’, defined in the Banks
1 Clinton van Loggerenberg and Stephen von Schirnding are directors at ENSafrica.
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Act to include the acceptance of deposits from the general public. The broad definition of ‘deposit’ generally includes the issuance to the general public of notes and debentures. As a result, the Commercial Paper Regulations to the Banks Act dated 14 December 1994 (the Commercial Paper Regulations) and the Securitisation Regulations to the Banks Act, dated 1 January 2008 (the Securitisation Regulations) have been enacted by the Registrar of Banks to provide a means for entities to issue commercial paper and to implement securitisation structures without falling foul of the provisions of the Banks Act or alternatively having to register as a bank. Following recent turmoil in one of South Africa’s banks, the Banks Amendment Bill 2015 was introduced, granting increased powers to the curator to make decisions in relation to a bank under curatorship.
Basel III and capital adequacyThe South African Reserve Bank (SARB), as part of South Africa’s G20 commitments, has been proactive in incorporating Basel III recommendations in the local regulations relating to banks and a number of banks in the South African market have issued Basel III compliant regulatory capital instruments. The SARB has also made available a committed liquidity facility to assist banks in complying with the liquidity requirements of Basel III. South African banks have begun to issue Tier 2 capital qualifying subordinated notes that meet the Basel III capital requirements.
Commercial Paper RegulationsThe Commercial Paper Regulations provide for limited disclosures that must be made in an issuer’s placing document (as well as on the certificates issued where the debt instruments are certificated), and further set out conditions for the issue of commercial paper. The most important conditions are as follows:a the commercial paper may only be issued and transferred in minimum
denominations equal to or greater than 1 million rand unless the commercial paper is (1) listed on a recognised financial exchange, (2) endorsed by a bank, (3) issued for a period of longer than five years, (4) issued by the central government, or (5) backed by an explicit national government guarantee; and
b the funds raised through the issue of commercial paper may only be raised for the purpose of the acquisition by the ultimate borrower (the issuer, its wholly-owned subsidiary or holding company or a juristic person in a similar relationship to the issuer, or a juristic person controlled by the issuer) of operating capital, and may not be applied directly or indirectly for the granting of money loans or credit to the general public.
Securitisation RegulationsThe Securitisation Regulations regulate, inter alia:a the corporate status, ownership and control of the issuer of commercial paper by
providing that it is incorporated as an insolvency-remote special purpose vehicle (SPV) and independent of an institution acting in a ‘primary role’ (originator, remote originator, sponsor or repackager);
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b the requirements in respect of the transfer of assets from the originator to the issuer, to the effect that the originator is totally divested of all rights, obligations and risks in connection with the assets and of effective or indirect control over the assets (the ‘true sale’ requirement);
c the provision of credit enhancement and liquidity facilities; andd specific disclosure of certain information in the placing document.
Inward listings by foreign entitiesThe JSE Limited (JSE) also allows foreign entities to list commercial paper on the exchange, subject to compliance with the JSE Debt Listings Requirements and certain other requirements, the most important of which being the appointment of a settlement agent and a local transfer secretary, and the dematerialisation of all instruments in the Central Securities Depository.
Regulatory frameworkTwin Peaks modelCurrently, the SARB and the Financial Services Board (FSB) exercise regulatory oversight over the banking system and non-banking financial services sector, respectively. This is set to change as the government takes steps to implement its ‘twin-peaks’ approach, aimed at the enhancement of systemic stability, improvement of market conduct regulation, sound micro- and macroprudential regulation, and the strengthening of the operational independence, governance and accountability of regulators. Under this system, the FSB will act as the consumer protection body and the SARB will act as the prudential regulator. In addition, regulations that aim to guide South African banks along the path to Basel III compliance are in effect, and South African banks are required to meet Basel III milestones in relation to capital and liquidity requirements.
JSE Debt Listings RequirementsIssuers wishing to list debt securities on the JSE must comply with the JSE Debt Listings Requirements.
The JSE Debt Listings Requirements require comprehensive disclosure in the placing document and impose ongoing reporting duties on issuers, including the duty to update the placing document within six months of the issuer’s financial year-end in the event that any of the information set out therein has become outdated in a material respect.
The JSE has recently amended the equities listings requirements (the JSE Listings Requirements) to cater for ‘hybrid financial instruments’. Issuers who issue securities that may portray characteristics of both debt securities and equity securities must consult with the JSE at an early stage before application for listing is made, list the instruments in accordance with the JSE Listings Requirements (rather than the JSE Debt Listings Requirements) and comply with additional disclosure requirements. Should listed securities no longer qualify as hybrid financial instruments, they will remain listed if they comply with the JSE Listings Requirements or the JSE Debt Listings Requirements, whichever is applicable.
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The JSE Debt Listings Requirements were recently updated and introduced fairly significant changes. The changes relate to the form and provision of financial information, the exclusion of exchange traded funds, the handling of dividends, and exchange control approval.
Companies Act 2008Under the Companies Act No. 71 of 2008 (the Companies Act), if a company does not restrict the transferability of its debt securities in its constitutional documents, it will be a public company by default. In terms of the JSE Debt Listings Requirements, an issuer company wishing to list debt securities on the JSE will have to be incorporated as a public company or, if incorporated as a private company, convert to a public company in accordance with the Companies Act.
Financial assistance by a company to any person for the purpose of, or in connection with, the subscription or purchase of any securities issued or to be issued by the company, or financial assistance by a company to a related or interrelated person, which includes the granting of a loan or guarantee, or the securing of any obligation of a related or interrelated company, may only be granted pursuant to a special shareholder resolution authorising the provision of financial assistance, and upon the further requirement that the board of directors should satisfy themselves that (1) immediately after providing the financial assistance, the company would satisfy the solvency and liquidity test (a concept introduced in the Companies Act to replace the concept of capital adequacy); and (2) the terms under which the financial assistance is proposed to be given are fair and reasonable to the company.
The Companies Act provides for a business rescue regime aimed at facilitating the rehabilitation of a company in financial distress for the benefit of its stakeholders (creditors, shareholders and employees). The process involves, inter alia, (1) a moratorium to protect the company from actions by its creditors; (2) the appointment of a business rescue practitioner to oversee the operations of the company; and (3) the preparation of a business rescue plan aimed at maximising the likelihood of the company continuing existence on a solvent basis.
New developmentsFinancial Markets Act, 2012Act No. 19 of 2012 (the Financial Markets Act), which replaced Act No. 36 of 2004 (the Securities Services Act) (which regulated securities exchanges, central securities depositories, clearing houses and their respective members from 2005) in its entirety, commenced on 3 June 2013. The Financial Markets Act addresses the call by the G20 for measures to be implemented to regulate the OTC derivatives market by providing for a trade repository and the central clearing of all derivatives trades, and additionally expands the regulatory scope of the Financial Services Board. To this end, draft regulations have been released but there has been no indication of when the final regulations will take effect or what they will contain. The Act is also aimed at aligning the security services industry with the latest legislative developments in South Africa, including the Companies Act.
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High-yield bondsThe high-yield bond market is not separately regulated in South Africa and both listed and non-listed high-yield bonds offered to the general public need to be issued in accordance with the regulations that apply to the issue of commercial paper generally. The JSE Debt Listings Requirements do, however, prescribe certain additional requirements for the listing of high-yield debt securities. Although the unlisted high-yield bond market has always been active, an increasing number of listed high-yield bonds have been brought to market in recent times.
Covered bondsDespite growing international interest in bank-issued covered bonds (secured bonds), the SARB has thus far rejected calls from banks to allow such bonds on the basis that depositors’ claims would be subordinated to those of bondholders. As bank-issued covered bonds have gained popularity around the world, South African market participants have lobbied the SARB to allow banks to issue covered bonds within limits. These requests have not to date been met with a favourable response from the SARB, although it may reconsider this decision in the future.
ii Developments affecting derivatives and other structured products
Legislation and regulationSouth Africa’s derivatives market has grown rapidly in recent years. As can be expected, the risks associated with its misuse have also increased. OTC trading of currency and interest rate derivatives has grown particularly quickly.
Parties intending to trade any derivative instruments must consider the requirements of the Financial Markets Act, and parties wishing to trade in listed derivatives must also comply with the rules of the Equity Derivatives Market and the Commodity Derivatives Market, each a division of the JSE. The term ‘securities’ is defined in the Financial Markets Act to include both listed and unlisted (OTC) derivative instruments.
Section 4(1)(b) of the Financial Markets Act read with Section 24 of the Act provides that no person may carry on the business of buying and selling listed securities except through an ‘authorised user’, or where such person is a financial institution transacting as principal with another financial institution transacting as principal. An ‘authorised user’ is defined as a person authorised by a licensed exchange to perform one or more securities services in terms of the exchange rules.
Parties wishing to conclude OTC derivatives transactions may make use of the ISDA master agreement (ISDA) published by the International Swaps and Derivatives Association.
The Financial Markets Act provides for the creation of a trade repository, a new feature in the South African OTC derivatives space, which is intended to maintain a central electronic database of transaction data pertaining to all open OTC derivatives. It is envisaged that this information is to be disclosed to regulators so that they are able to monitor potential risks in the market with a view to curbing systemic risk. It is likely to be some time before the trade repository (and, to an even greater extent, the clearing system intended to facilitate the central clearing of derivatives trades) gets off the ground.
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In July 2014, draft Financial Markets Act Regulations were released for the OTC derivatives market, which are aimed at, inter alia, regulating OTC derivative providers, trade data reporting and central counterparties. The draft regulations in their current form lack clarity and precision, making it difficult to understand the extent to which they will affect business. In their present form, however, the draft regulations envisage that all OTC derivative providers will need to be authorised if they wish to continue operating, will be required to report all trade data to a licensed trade repository or a recognised external repository, and to clear transactions through a central counterparty. A second draft of the Regulations was released in June 2015, together with a number of draft board notices issued by the FSB, which provide further refinements to the initial draft.
Another interesting development in the Financial Markets Act is the introduction of Section 46, which appears to place a pledge, given while the pledgor is insolvent (presumably over securities deposited in a central securities depository), beyond the reach of the impeachable disposition provisions of the Insolvency Act No. 24 of 1946.
Hedge fundsIn April 2015, hedge funds were declared to be collective investment schemes and now fall to be regulated under the Collective Investment Schemes Control Act, bringing hedge funds into the scope of regulatory oversight for the first time. All hedge funds are now required to have structures in place to ensure that investors cannot lose more than they invest, and an appropriate level of independent review must be undertaken for each valuation of assets, particularly those in which the valuation is influenced by the manager of the hedge fund.
DocumentationGlobal master securities lending agreements (GMSLAs), global master repurchase agreements (GMRAs) and ISDAs are commonly used in the South African financial markets for the conclusion of securities lending, repurchase and derivative transactions, respectively. As between two South African counterparties, it is common to change the governing laws of the agreements to South African law. In addition, in respect of ISDAs, the English law bilateral transfer credit support annex is widely used, albeit in an amended form to accommodate South African methods of providing collateral.
There has been a movement in the South African securities lending industry in recent years to standardise the content of the schedules that counterparties attach to their GMSLAs. The South African Securities Lending Association (SASLA) led the development of two standard South African schedules: one to accompany the 2000 GMSLA and one to accompany either the 2009 or the 2010 GMSLA.
The key reason for standardising the schedules was that the methods by which collateral may be given in South Africa (particularly in respect of uncertificated securities) did not fit satisfactorily into Section 5 of the GMSLA, which generally required significant amendment for use by South African counterparties. Therefore, standardised schedules provide the necessary contractual framework for providing cash or securities collateral by outright transfer or, as is common in South Africa, by pledge.
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SASLA is currently in the process of updating these standardised schedules to take account of the provisions of the Financial Markets Act, especially insofar as the approach to providing collateral is concerned (see below).
Netting, collateral and other credit support arrangements and capital requirementsNettingContractual netting is analogous to the recognised principle of South African common law ‘set-off’, whereby contractual debts may be extinguished. The common law doctrine of set-off operates where two parties are mutually indebted to each other and all debts to be set off are liquidated, due and payable, and of the same nature. Parties are generally free to provide for contractual netting in their transactions. Contractual netting across multiple transactions and agreements is also enforceable prior to the insolvency of a party to the agreements, provided that such netting does not occur across jurisdictions. Contractual netting may also be effected by a non-defaulting party at the commencement of business rescue proceedings; however, contractual netting after the commencement of insolvency proceedings would not generally be enforceable under South African law.
The Insolvency Act, however, creates an exception to this rule in that it mandates statutory netting in accordance with its provisions in respect of obligations arising out of ‘master agreements’. Standard-form agreements published by the International Swaps and Derivatives Association and the Securities Lending and Repo Committees are ‘master agreements’ as contemplated by the Insolvency Act. Accordingly, all derivatives agreements, securities lending agreements and repurchase transactions struck under standard form agreements and published by the International Swaps and Derivatives Association, the International Securities Lenders Association, the Bond Market Association or the International Securities Market Association will benefit from the statutory netting exception provided for in the Insolvency Act. Section 35B envisages the automatic termination, upon the date of liquidation, of all unperformed obligations arising out of ‘one or more master agreements’ up to the date of liquidation, which is essentially the date of the commencement of insolvency proceedings. Once the unperformed obligations have been terminated, Section 35B(1) requires that the values of those obligations be calculated at market value as at the date of liquidation and that all of the values so calculated be netted and the net amount be payable.
CollateralThe transfer or payment of an amount of money or cash as collateral is widespread in the South African market and is uncontroversial. Where cash is ceded outright or pledged by physical delivery (through transfer) of the cash to the secured party, such secured party will become the owner of that cash in line with the general principle of South African law in terms of which the transfer of fungible property (such as cash) to a transferee who mixes such fungible property with similar fungible property of his or her own, results in the ownership of such fungible property transferring to the transferee. Alternatively, parties may opt to pledge the right to claim the amount standing to the credit of a dedicated bank account into which cash collateral has been deposited. The parties and the bank generally enter into a tripartite agreement in terms of which restrictions are placed on withdrawals from the account until the secured obligations have been discharged.
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Insofar as securities as collateral are concerned, South African law regards the rights of a holder of securities against the issuer of those securities as personal rights. The South African legal position regarding title transfer of personal rights is strewn with inconsistent terminology and conceptual confusion. The balance of court opinion, however, favours the pledge construction (as opposed to a full title transfer) of a personal right effected by way of a security cession, unless it is clear from the parties’ intention that they wish to create a security cession in the form of a title transfer.
The lack of clarity in the past surrounding out-and-out transfer in the dematerialised space appears to have been resolved under the FMA, with a distinction drawn between pledging securities in a securities account through a process called ‘statutory flagging’, and outright transfers of collateral.
The Financial Markets Act provides that to effect a pledge of dematerialised securities, the prescribed process ‘must’ be followed (i.e., the securities account must be ‘flagged’), and further that a pledge or cession in securitatem debiti effected in accordance with Section 39 will be effective against third parties (from which it can be inferred that a pledge that is not effected in accordance with Section 39 will likely be ineffective against third parties (although not necessarily between the contracting parties inter se)). A further new feature in the Financial Markets Act is that it allows for parties to pledge all of the securities standing to the credit of a securities account on a particular date.
Section 39(2) of the Financial Markets Act makes it clear that Section 39 does not apply to out-and-out cessions of securities. The inclusion in the section dealing with security of a reference to out-and-out transfer may hint at the legislature’s taking account of the possibility of out-and-out security cessions. Although a view has been taken in the market that there is an argument to be made that the wording of the Financial Markets Act theoretically allows for out-and-out security cessions, various practical uncertainties (including the possible tax consequences of transferring securities outright) mean that the viability of an out-and-out cession in security remains untested.
iii Relevant tax law
South African tax law has recently undergone some significant changes relating to, inter alia, interest withholding taxes, interest deductions, hybrid instruments and the taxation of financial instruments.
Although non-residents that do not carry on business in South Africa through permanent establishments are generally exempt from income tax in South Africa on South African-sourced interest, an interest withholding tax came into effect on 1 March 2015 and is imposed at the rate of 15 per cent on the amount of any South African sourced interest paid by any person to or for the benefit of any non-resident.
Tax withheld will generally constitute a tax credit for such a non-resident in its respective jurisdiction. Furthermore, certain types of interest, including interest paid to a non-resident in respect of debt instruments listed on recognised exchanges or interest paid by a registered bank, are exempt from this withholding tax. A foreign person is also exempt from the withholding tax on interest if the debt claim in respect of which that interest is paid is effectively connected with a permanent establishment of that foreign person in South Africa, if that foreign person is registered as a taxpayer in South Africa.
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In terms of existing legislation, certain limitations are imposed in relation to the deduction of interest incurred, inter alia, by debtors in respect of debt used or applied in the acquisition of assets in terms of certain reorganisation and acquisition transactions. These limitations may have an impact on, inter alia, certain of the corporate rollover relief provisions relating to reorganisation and acquisition transactions.
With effect from 1 January 2015 certain limitations are imposed on the deduction of interest incurred, inter alia, by debtors where the creditor is in a controlling relationship with such debtor or where there is no controlling relationship but where the creditor has obtained funding from a person in a controlling relationship with the debtor, and where the interest incurred is not, inter alia, subject to South African tax in the hands of the person to which the interest accrues. These limitations may affect transactions where debt is owed to a person who is not subject to tax on interest income in South Africa (i.e., where foreign funding is obtained by South African borrowers).
There is legislation that limits interest deductions in respect of certain debt instruments by deeming any interest incurred in respect of a ‘hybrid debt instrument’ and any ‘hybrid interest’ to constitute a dividend in kind for purposes of the Income Tax Act No. 58 of 1962 (the Income Tax Act). In particular, debt instruments (1) that do not oblige the issuer of the instrument to redeem the instrument within 30 years where the issuer and the holder of the instruments are connected persons; (2) that enable certain conversions or exchanges into shares; or (3) in terms of which the obligation to pay an amount in respect of the instrument is conditional upon the solvency of the company, will constitute a ‘hybrid debt instrument’. A result of such classification is that the interest deduction of the issuer will be denied and the interest will be treated as a dividend in kind paid to the holder of the relevant debt instrument. This will result in dividends tax being levied on the payor. Certain regulatory hybrid debt (i.e., certain Tier 1 or Tier 2 capital instruments owed by a bank) is exempt from these rules.
Furthermore, any ‘hybrid interest’ (i.e., interest in respect of debts owed that is not calculated with reference to a specified rate of interest or the time value of money, or interest the rate of which is increased by reason of an increase in the profits of the company which owes the debt) is treated as a dividend in kind paid. Such hybrid interest is not deductible by the payor. Certain regulatory hybrid debt (i.e., certain Tier 1 or Tier 2 capital instruments owed by a bank) is exempt from these rules.
Interest is, for tax purposes, generally spread on a day-to-day basis over the term of the relevant instruments using a yield-to-maturity or an acceptable alternative methodology. A new fair value system of taxation of financial instruments entered into force with effect from 1 January 20142 in terms of which qualifying taxpayers are required to determine their taxable income by including in, or deducting from, their taxable income, all amounts in respect of specific financial assets and financial liabilities that are, inter alia, recognised at fair value in profit or loss in terms of IFRS in the statement of comprehensive income of such taxpayers for the year of assessment.
The dividends tax (DT) is imposed on shareholders at a rate of 15 per cent. DT is a withholding tax to the extent that the dividends paid are cash dividends, and the
2 Applicable in respect of years of assessment ending on or after this date.
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amount of DT withheld is paid on behalf of the shareholder to SARS by the company paying the dividend. DT levied on cash dividends would generally constitute a tax credit for foreign shareholders in that shareholder’s jurisdiction. In respect of dividends in kind the liability for the dividends tax is on the declaring company. The DT provisions contain specific anti-tax avoidance provisions applicable to certain dividend cessions, share loans and share resale arrangements.
Although dividends declared by South African residents are generally exempt from income tax, specific provisions have been introduced to subject certain dividends to income tax. These rules apply to companies receiving dividends as a result of, inter alia, dividend cessions, certain discretionary trust distributions, share loans, as well as dividends received by a company where such company has incurred deductible expenditure that is determined with reference to such dividend income.
The Income Tax Act contains certain provisions that may apply to preference share funding structures. In particular, Section 8E treats dividends on hybrid equity instruments (shares that are redeemable within three years and certain preference shares) as ordinary revenue in the hands of the person entitled to the dividend. In addition, Section 8EA of the Income Tax Act treats dividends on third-party backed shares (shares in respect of which an enforcement right or obligation is exercisable as a result of an amount of a specified local or foreign dividend or return of capital not being received or accrued to any person entitled thereto) as ordinary revenue in the hands of the shareholder, while not allowing a corresponding deduction for the company paying the dividend.
iv Role of exchanges
The JSE, which ranks among the top 20 exchanges in the world by market capitalisation, is South Africa’s only exchange. The JSE’s rules and enforcement procedures are based on global best practice, while its automated trading, settlement, transfer and registration systems are on par with other leading stock exchanges. South Africa has recently been rated as the world leader when it comes to the regulation of securities exchanges.3
The majority of the JSE’s market capitalisation is based on the companies listed on the Main Board, on which the JSE’s top 40 stocks are also listed. The Main Board houses the same sectors grouped according to the London Stock Exchange’s FTSE classifications. The local bond market is still dominated by securities issued by the South African government, with local government, public enterprises and major corporations accounting for the rest of the debt issuers active in the market.
AltX, the alternative exchange, is a division of the JSE that focuses on good quality small and medium-sized high-growth companies. AltX is designed to appeal to a diverse range of companies in all sectors and plays a vital role within the JSE by providing smaller companies not yet able to list on the JSE Main Board with a clear growth path and access to capital.
The Equity Derivatives Market provides a platform for trading futures and options. The Commodity Derivatives Market provides a platform for price discovery
3 World Economic Forum’s 2014/2015 Global Competitiveness Report.
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and efficient price risk management for the grains market in Sub-Saharan Africa. More recently, this division also offers derivatives on precious metals and crude oil.
South Africa looks set to see an increase in the competitiveness of the local exchanges, with two new companies having lodged applications for licences to operate rival exchanges in the country in 2015.
III OUTLOOK AND CONCLUSIONS
In line with its commitment as a member of the G20, the South African legislature continues to refine and update legislation to ensure that South Africa’s already well-regulated capital markets follow international best practice. Market participants seeking to invest in the South African capital markets will encounter a sophisticated market with a number of similarities to those found in other G20 jurisdictions. The South African capital markets have emerged relatively unscathed from the global financial crises and have continued to be an attractive destination for investors and issuers alike.
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Chapter 28
SPAIN
David García-Ochoa Mayor and Daniel Pedro Valcarce Fernández1
I INTRODUCTION
i Overview
Spain’s recovery has gathered momentum over the first half of 2015. The imbalances accumulated in the past continue to be mitigated, allowing the Spanish economy to enjoy a more favourable scenario and Spanish companies to tap capital markets.
According to the International Monetary Fund’s latest review conducted as at July 2015, the economic recovery is forecast to become firmer over 2015–2016, with GDP growth expected to be well above the eurozone average. Job creation has picked up, although unemployment remains high. Access to new credit is also increasing.
Labour market reforms and moderate wage growth have supported employment and helped Spain regain competitiveness. These reforms, together with continued fiscal consolidation, have reassured markets and boosted consumer and investor confidence.
Nevertheless, structural problems may limit Spain’s growth potential going forward. Despite the progress in adjusting imbalances, high levels of public and private debt are expected to continue to weigh on consumption and investment. The regional and national elections to be held in the next few months also add some uncertainty to the outlook.
1 David García-Ochoa Mayor is a partner and Daniel Pedro Valcarce Fernández is an associate at Uría Menéndez Abogados, SLP. The authors gratefully acknowledge the assistance of David López Pombo (senior associate at Uría Menéndez Abogados, SLP) regarding the tax aspects of this chapter.
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ii Structure of the law
The most important piece of legislation regarding the securities market in Spain is Law 24/1988, of 28 July, on the securities market (LMV), which has been amended on numerous occasions.2
The LMV contains the principles governing all securities markets in Spain, and is the law in which most of the EU directives on securities markets have been incorporated. As such, capital market regulations in Spain are significantly aligned with those of other EU countries. The LMV establishes which securities are tradable and the way they should be represented (in particular, by book entries, and how such book entries should be made). It also created the supervisory body for the securities markets, the National Securities Market Commission (CNMV), introduced the distinction between primary and secondary markets and determined what are to be considered official secondary markets (‘regulated markets’ in EU regulations). Moreover, the LMV sets out the principles for the clearing, settlement and central counterparty houses and investment services companies. It regulates cross-border activities and provided for the creation of the Investment Guarantee Fund and the principles of the rules of conduct in the securities markets. It also provides the legal regime of supervision, inspection and penalties for those entities that operate in the securities markets, both primary and secondary, the tax regime of securities transactions, the regime applicable to trading companies and, finally, the regulatory framework of multilateral trading facilities (MTFs) and of systematic internalisers.
Another important piece of legislation is Law 41/1999, of 12 November, on clearing and settlement of securities systems, which transposed into Spanish law Directive 98/26/EC of the European Parliament and of the Council, of 19 May 1998, on settlement finality in payment and securities settlement systems. Also of relevance are Law 26/2003, of 17 July, amending the public limited companies law and the LMV to increase the transparency of listed companies, and Law 5/2015, of 27 April, on promoting corporate financing (the Law on Promoting Corporate Financing).3
The LMV has been developed by a number of regulations. The most important of these are (if applicable, as amended):
2 The most important amendments to the LMV were introduced by Law 37/1998, of 16 November, on the reform of the securities market law and the introduction of other amendments to the Spanish financial system; Law 44/2002, of 22 November, on the reform of the financial system; Law 47/2007, of 19 December, which implemented EU Directive 2004/39 (MiFID) in Spain and, partially, EU Directives 2006/73 and 2006/49; Law 32/2011, of 4 October, which reforms the clearing, settlement and registry system of securities held in book-entry form; Law 10/2014, of 26 June, on the organisation, supervision and solvency of credit institutions; and Law 5/2015, of 27 April, on promoting corporate financing. In view of the significant number of amendments to the LMV over the years since its enactment, the Spanish government published a draft royal legislative decree in September 2015 recasting the LMV.
3 See Section II.i., infra, on the Law on Promoting Corporate Financing.
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a Royal Decree 726/1989, of 23 June, on the governing bodies and members of stock exchange companies, Sociedad de Bolsas and collateral requirements;
b Royal Decree 1416/1991, of 27 September, on special transactions and off-market transfers of listed securities and average weighted prices;
c Royal Decree 116/1992, of 14 February, on representation of securities by means of book entries and clearing and settlement of exchange transactions;
d Royal Decree 948/2001, of 3 August, on systems of investor indemnification;e Royal Decree 1310/2005, of 4 November, on admission to trading in official
secondary markets, public offers for the sale of securities and the prospectus required for such operations;
f Royal Decree 1066/2007, of 27 July, on the rules applicable to takeover bids for securities;
g Royal Decree 217/2008, of 15 February, on the legal framework for investment services companies;
h Royal Decree 1282/2010, of 15 October, on the official market of options, futures and other derivative financial instruments;
i Royal Decree 1082/2012, of 13 July, on collective investment schemes; andj Royal Decree 878/2015, of 2 October, on clearing, settlement and registry of
negotiable securities, on the legal regime of central securities depositories and central counterparties, and transparency requirements of issuers of securities trading in an official secondary market.
iii Structure of the courts
The commercial courts are the specialist first-instance courts generally entrusted with hearing civil claims lodged with regard to corporate and insolvency law. Other matters (among others, those related to civil liability arising from inadequate commercialisation and placement of financial instruments) are normally heard by generalist first-instance courts.
iv Regulatory authorities
The most important regulatory authority in the Spanish capital markets is the CNMV. However, the Bank of Spain, in respect of the public debt market, the Ministry of Economy and Competitiveness (regarding certain approvals and the imposition of penalties) and the departments of economy of some autonomous regions also have certain supervisory powers.
The CNMV is an entity with its own legal personality, separate from that of the central government or the autonomous regions. The CNMV is governed by a board of directors made up of a chairman and a vice chairman (both appointed by the Council of Ministers), the Director General of the Treasury and Financial Policy, the Deputy Governor of the Bank of Spain and three other directors appointed by the Minister of Economy and Competitiveness.
The main functions of the CNMV are to supervise and inspect the securities markets and the activity of all individuals or legal entities related thereto, as well as to impose any penalties for infringements of securities market legislation. It must ensure the transparency and efficiency of the securities markets, protect investors and disseminate
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any information that may be necessary for these purposes. Likewise, when so empowered by law on a case-by-case basis, it can also issue circulars containing mandatory rules for the implementation and enforcement of the regulations issued by the Council of Ministers or the Minister of Economy and Competitiveness.
The Bank of Spain, apart from its functions as the Spanish central bank, is the managing body of the Market for Public Debt Represented by Book Entries and may issue circulars to develop the regulations governing that market (among other matters).
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
The Law on Promoting Corporate FinancingLaw 5/2015, of 27 April, on promoting corporate financing has introduced a wide range of novelties in different areas. In particular, it entailed the following:a amendment and update of the legal regime of financial credit institutions;b amendment of securitisations regime4 (a market in which Spain became one of
the most relevant players during the upturn in the last economic cycle);c easing Spanish companies’ access to capital markets, including mechanisms to
facilitate a listed company’s ability to move its shares from trading on a regulated market to an MTF and vice versa, as well as a long-awaited amendment to the bond issuances framework;5 and
d regulation of crowd funding in Spain for the first time.
Special reference to the new legal framework on bonds introduced by the Law on Promoting Corporate FinancingThe Law on Promoting Corporate Financing aims to facilitate access to debt capital markets by improving the legal framework on bonds, which had been primarily derived from the Spanish Public Limited Liability Companies Law enacted in 1951.
The main novelties of the new regime are the following:a private limited liability companies (sociedades limitadas) can carry out and
guarantee standard debt securities’ issuances capped at twice their own funds;b the quantitative limit on debt issuances by non-listed public limited liability
companies (sociedades anónimas) has been lifted;c the management body is authorised to approve standard debt securities issuances
that do not yield part of the profits (i.e., not requiring consent at the general shareholders meeting), unless otherwise stated in the issuer’s articles of association;
d the requirement (where necessary) for the public deed of issuance to be duly registered as a condition precedent for closing has been removed; and
4 See Section II.ii., infra, on a special reference to the new securitisation legal regime introduced by the Law on Promoting Corporate Financing.
5 See Section II.i., infra, on the new legal framework on bonds introduced by the Law on Promoting Corporate Financing.
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e it has been clarified that it is unnecessary to appoint a commissioner and set up a syndicate of bondholders in debt issuances governed by foreign law aimed at international markets.
Ongoing initial public offerings (IPOs) activitySeveral companies have undergone an IPO (or an IPO process) in Spanish capital markets in recent months.
To name a few, since early 2015 the state-owned airport operator (Aena Aeropuertos), a leading company in the Spanish railway sector (Talgo) and the main independent infrastructure operator for wireless telecommunication in Europe (Cellnex Telecom) have been listed on Spanish stock exchanges. The Spanish government also has plans to take several companies public (Banco Mare Nostrum expects to be listed in the upcoming months).
In addition, it is expected that several Spanish real estate companies will launch IPOs this year in the Spanish capital markets (Lar España Real Estate, Hispania Activos Inmobiliarios, Merlin Properties and Axia Real Estate were listed in the past few years and some of them have already executed successful capital increases). Most of these newcomers are expected to be incorporated under the recently reformed SOCIMI regime, which is to a substantial extent modelled on the REIT regime.
Reform of the clearing, settlement and registry system of securities transactionsLaw 32/2011, of 4 October, which amended the LMV, anticipated the guidelines of the future Spanish clearing, settlement and registry system, making specific changes that once implemented would modify the system and allow for the integration of the post-trading Spanish systems into TARGET2-Securities (T2S). In fact, these changes have been recently implemented by means of Royal Decree 878/2015, of 2 October, on clearing, settlement and registry of negotiable securities, on the legal regime of central securities depositories and central counterparties, and transparency requirements of issuers of securities trading in an official secondary market.
The reform of the Spanish clearing, settlement and registry system of securities transactions is currently expected to be implemented in two phases.
The first phase (now expected to be completed in February 2016 pursuant to the provisions of Royal Decree 878/2015) will include the introduction of a central clearing counterparty in the post-trading process,6 a new T+2 settlement system for equities (i.e., settlement will occur two days after the trade date) and the switch from registration of transactions based on a reference number to a balance-based system.
The second phase (scheduled to be fully implemented in February 2017) will coincide with the Spanish system’s connection to T2S. At that time, fixed-income securities will be transferred to the new system. This will entail the unification of the registry and settlement approach for both equities and fixed-income instruments. Furthermore, the settlement process will be performed from that point onwards in accordance with the procedures and time periods established by T2S.
6 See Section II.v., infra, on the role of exchanges and central counterparties (CCPs).
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ii Developments affecting derivatives, securitisations and other structured products
New securitisation legal regime introduced by the Law on Promoting Corporate FinancingThe Law on Promoting Corporate Financing aims to enhance transparency, quality and simplicity in Spanish securitisation transactions.
The main novelties of the new regime are the following:a the various existing securitisation legal provisions have been consolidated in a
single legislative instrument and the previous two types of securitisation funds have been merged;
b active management of the portfolio of open-ended securitisation funds has been allowed if detailed in the fund’s deed of incorporation (and, if applicable, in the prospectus);
c the securitisation fund’s deed of incorporation may now provide for a ‘creditors meeting’, which will be entitled to pass the necessary resolutions to best defend the legitimate interests of the securitisation fund creditors (e.g., restructuring of a securitisation transaction);
d restrictions on asset transfers in favour of securitisation funds have been removed (previously, for instance, the transfer had to be full, unconditional, for the entire remaining term until maturity, not guaranteed in any manner by the originator and assets could not be transferred by means of subscription by the fund);
e it is now possible to complete the assets portfolio of a closed-ended securitisation fund during a four-month period after its incorporation;
f the servicing and administration of securitisation fund assets can now be entrusted to a third party (previously it was legally presumed to be retained by the originator); and
g most restrictions on liability instruments have been lifted (fund securities previously required a rating and securities needed to exceed 50 per cent of the fund’s liabilities).
iii Cases and dispute settlement
In the aftermath of the financial crisis, there has been an increase in litigation in Spain with regard to securities (whether issued in Spain or abroad) distributed to Spanish-resident clients, in particular, litigation regarding issuers then declared insolvent or securities the value of which was impaired. Many of these claims challenge the correct application of MiFID and other banking regulations.
Litigation with regard to inadequate commercialisation and placement of financial instruments has influenced recent regulation: Royal Decree-Law 6/2013, of 22 March, aims to protect holders of hybrid instruments that have been issued by credit institutions ‘in crisis’, basically facilitating in specific cases access to arbitration as a form of dispute resolution and providing liquidity to the shares that the holders of these instruments receive when exchanging them.
On another score, certain court judgments deciding in favour of clients led the CNMV to stipulate (in Circular 3/2013, of 12 June, on the development of certain information obligations in relation to clients to whom investment services are rendered
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in connection with the assessment of the suitability and convenience of financial instruments) that when a transaction is made over a complex security and the entity considers that such product is not appropriate for the client, the client must be informed of this fact in writing by means of a boilerplate statement established in the circular, which the client must sign after writing out the following by hand: ‘This product is complex and is considered unsuitable for me.’
iv Relevant tax and insolvency law
On 27 November 2014, a comprehensive reform to the Spanish tax system (which includes a new Spanish Corporate Income Tax Law (CIT) and several amendments to the Spanish Individual Income Tax (IIT), Value Added Tax and Non-Resident Income Tax (NRIT) Laws) was passed by the Spanish parliament. These amendments entered into effect on 1 January 2015.
Pursuant to the Spanish tax reform, several modifications were introduced in the NRIT Law, as approved by Royal Legislative Decree 5/2004, of 5 March. The amendments’ main purpose is to further adjust the NRIT Law to bring it in line with EU law and reinforce the legal certainty.
In summary, the major changes in the NRIT Law for 2015 are:a specific changes in connection with the rules applicable to determining the NRIT
basis for entities or individuals resident in an EU Member State, under which the determination of the deductible expenses for NRIT purposes for these taxpayers basically follows CIT or IIT rules, as the case may be;
b the reduction of NRIT rates (especially for entities or individuals resident in an EU Member State or an EEA Member State which has an effective exchange of tax information in relation to Spain), which, pursuant to Royal Decree-Law 9/2015, of 10 July, have been further reduced for the period between 12 July 2015 and 31 December 2015;
c an amendment of the anti-abuse clause of the European Union (EU) Parent-Subsidiary Directive exemption on dividends (see below) and the extension of this new anti-abuse rule to the EU royalties exemption (pursuant to EU Directive 2003/49/EC, of 3 June 2003); and
d the modification of the exemption applicable to NRIT taxpayers (without permanent establishment in Spain) who are resident in an EU Member State, on capital gains derived from the transfer of interests in Spanish companies.
Furthermore, it is important to bear in mind that changes introduced in the IIT Law by the Spanish tax reform also affect NRIT taxation applicable to NRIT taxpayers, since the NRIT basis for those NRIT taxpayers not acting through a permanent establishment in Spain is generally based on IIT rules. In particular, share premium distributions and capital reductions for shareholders who are NRIT taxpayers are regarded as income distributions (and would thus be subject to NRIT taxation) under specific conditions, except for shareholders of entities whose shares are listed in a regulated market pursuant to EU Directive 2004/39/EC, of 21 April 2004.
Generally, non-resident taxpayers are subject to NRIT on Spanish-source income, and must declare and pay NRIT during the first 20 days of April, July, October and
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January: in these cases, NRIT is paid on income obtained during the calendar quarter immediately preceding these payment periods.
Spanish-source income would include, among others, interest paid by a Spanish-resident taxpayer or with respect to financing used in Spain; income triggered on the disposal of bonds issued by Spanish-resident persons; dividends distributed by Spanish-resident entities; and capital gains on the disposal of shares and units issued by Spanish-resident entities or undertakings for collective investments (UCIs).
Income deemed to be obtained in Spain is generally subject to NRIT at a rate of:a 19.5 per cent in 2015 (although, before 12 July 2015, the applicable rate was
20 per cent), which is further reduced to 19 per cent as from 1 January 2016, for entities or individuals resident in an EU Member State or an EEA Member State which has an effective exchange of tax information in relation to Spain; and
b 24 per cent for NRIT taxpayers who are not resident in an EU Member State or an EEA Member State which has an effective exchange of tax information in relation to Spain.
In addition, a reduced tax rate of 19.5 per cent in 2015 (20 per cent before 12 July 2015), which is reduced to 19 per cent as from 1 January 2016, is applied on dividends, interest and capital gains. Each income is subject to taxation separately on a gross basis (with certain exceptions, no expenses are deductible, except for entities or individuals resident in an EU Member State under specific conditions). Normally, a withholding tax generally equal to the non-resident’s final tax liability is levied on interest, dividends and capital gains on UCIs, in which case the taxpayer does not need to file an NRIT return with the Spanish tax authorities to declare and assess its NRIT liability.
A brief overview of the Spanish taxation applicable to non-resident investors is provided below. Please note that this refers to individuals or entities not resident in Spain for tax purposes, and not acting through a permanent establishment located in Spain.
Capital gains on the transfer of interests in Spanish corporations or UCIsIn general, capital gains obtained in Spain by a non-resident taxpayer from the transfer of interests in Spanish corporations or UCIs will be taxed under NRIT at a rate of 19.5 per cent (19 per cent as from 1 January 2016). No withholding tax is levied on capital gains, except for those related to an investment in a Spanish UCI.
Domestic legislation provides for an exemption from tax for the benefit of residents of countries that have entered into a convention for the avoidance of double taxation (CDT) with Spain, and that includes an exchange-of-information clause, in the case of transfers of shares of Spanish companies or reimbursements of units in a UCI that are carried out in a Spanish official secondary securities market.
In addition, EU residents are entitled to an exemption on capital gains obtained upon disposal of shares, provided that the following conditions are met:a the company to which the shares belong does not consist mainly (directly or
indirectly) of real estate located in Spain;b in the case of a non-resident individual, he or she has not held a direct or indirect
interest of at least 25 per cent in the relevant Spanish company’s capital or net equity during the 12 months preceding the transfer;
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c in the case of non-resident entities, the transfer fulfils the requirements of Article 21 of CIT Law (which are highly complex and must be analysed on a case-by-case basis); and
d the capital gain is not obtained through a tax haven jurisdiction or a permanent establishment located in a country or jurisdiction which is not an EU Member State.
Finally, most CDTs provide for an exemption from capital gains tax, except when the assets are allocated to a Spanish permanent establishment or when the assets are Spanish real property (also generally including for this purpose any capital gains from the transfer of Spanish ‘land rich’ companies). In some cases, when the assets consist of shares in a Spanish-resident entity, the exemption is conditional on the fact that the holding is below significant participation thresholds (below 15 per cent or 25 per cent).
Interest and dividendsIn general, interest and dividends obtained in Spain by a non-resident taxpayer will be taxed under NRIT at a rate of 19.5 per cent (19 per cent as from 1 January 2016), and will be subject to withholding tax on account of NRIT.
Domestic rules provide certain tax exemptions on income obtained by non-residents (e.g., income derived from Spanish public debt or listed preference participations and debt instruments meeting certain requirements, or interest accrued on non-residents’ bank accounts). In particular, in the case of preference participations and debt securities issued under the first additional provision of Law 10/2014, of 26 June (which can be issued not only by banks or listed companies, but also by any Spanish corporation, provided the securities are listed in a regulated market, an MTF or an organised market, among other requirements), non-resident taxpayers will not be subject to taxation or withholding in Spain.
In addition, EU residents are entitled to an exemption on interest obtained in Spain, provided that interest is not obtained through a tax haven jurisdiction or a permanent establishment located in a country or jurisdiction which is not an EU Member State.
Regarding dividends, under the Parent-Subsidiary Directive no Spanish withholding taxes should be levied on the dividends distributed by a Spanish subsidiary to its EU parent company (and EEA parent companies under additional specific conditions), to the extent that:a the EU parent company maintains a direct holding in the capital of the Spanish
subsidiary of at least 5 per cent uninterruptedly during the year prior to the date on which the distributed profit is due;
b the EU parent company is incorporated under the laws of an EU Member State and is subject to corporate income tax in a Member State, without the possibility of being exempt; and
c the distributed dividends do not derive from the subsidiary’s liquidation.
The Spanish implementation of the Parent-Subsidiary Directive includes an anti-abuse provision, by virtue of which the withholding tax exemption will not be applicable where the majority of the voting rights of the parent company are held directly or indirectly
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by individuals or entities not resident in the EU, except when the EU parent company evidences that it has been incorporated for valid economic and substantive business reasons. The EU Parent-Subsidiary exemption may also apply to parent companies resident in an EEA Member State that has ratified an effective exchange of tax information agreement with Spain, under similar conditions.
Finally, non-residents that are resident in a country that has entered into a CDT with Spain will be entitled to apply the reduced tax rates or exemption provided in the relevant CDT (CDTs usually establish rates ranging from 0 per cent to 15 per cent on interest and dividends).
Insolvency lawThe most important piece of legislation on the matter in Spain is Law 22/2003, of 9 July, on insolvency, which has been amended on a number of occasions in the past few years in order to facilitate the refinancing processes undertaken by Spanish companies, as well as their general recapitalisation.
One of the main particularities of this law is that, in the case of issuers of securities or derivative instruments traded in an official secondary market, the insolvency trustee will either be a CNMV staff expert or a person designated by it fulfilling certain requirements (basically, an economist or auditor with a certain specialisation and experience, a Big Four firm or other audit companies).
However, other pieces of legislation may also be relevant in an insolvency context. Article 33 of the LMV allows the CNMV to suspend trading of a financial instrument in Spanish official secondary markets when special circumstances occur that may disrupt the usual course of transactions over said financial instrument or when such a measure is advisable to protect investors. The CNMV generally resorts to this faculty to suspend trading of a listed company when a petition for insolvency is filed.
v Role of exchanges and central counterparties (CCPs)
Secondary markets and MTFsUnder Spanish law, in the area of securities markets, an initial and basic distinction must be made between the primary and secondary markets. In the primary market (also known as the issuance market), issuers put into circulation (i.e., issue) securities, which are subscribed by investors, either directly or through financial intermediaries. Conversely, in the secondary markets securities that have been previously issued are traded. Secondary markets offer liquidity to those securities that have already been issued in the primary market and facilitate their subscription, since the existence of the secondary market allows the investors to sell the relevant securities in an uncomplicated manner. The official secondary markets mainly include:a the stock exchanges;b the Market for Public Debt Represented by Book Entries;c futures and options and other derivative markets, notwithstanding the underlying
assets (either financial or non-financial); andd the AIAF Fixed Income Market.
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There are currently four stock exchanges in Spain, all subject to the supervision of the CNMV. These are established in Madrid, Barcelona, Bilbao and Valencia; there is also the ‘interconnection system between stock exchanges’ (SIBE). Only those securities previously admitted to listing on at least two of the Spanish stock exchanges are traded on the SIBE, provided that the prior authorisation of the CNMV is obtained.
In addition to the official secondary markets, MTFs are increasingly relevant. An MTF is a multilateral system operated by an investment firm or a market operator, which brings together multiple third-party buying and selling interests in financial instruments – in the system and in accordance with non-discretionary rules – in a way that results in an agreement in accordance with the LMV. Examples of Spanish MTFs are:a the Alternative Stock Market (MAB), implemented in 2006 as a less regulated
market for SICAVs (open-ended collective investment companies) and stocks with small market capitalisation; and
b the Alternative Fixed-Income Market (MARF), implemented in 2013 as an alternative source of funding for medium-sized companies with positive business prospects and usually unlisted shares.
CCPsIn the past, the only Spanish markets that provided central counterparty services were the futures and options market, with the former Spanish Financial Futures and Options Exchange (MEFF) acting as both an official secondary market and as a CCP. After the amendments to the LMV introduced by Law 44/2002, it was made possible to incorporate central counterparty companies to provide a counterparty to one or more securities traded in the different securities markets.
Given the need to separate trading and clearing activities pursuant to the European Market Infrastructure Regulation (EMIR), the clearing activity carried out by MEFF is now carried out by BME Clearing, the first and exclusive CCP incorporated to date in Spain. In this regard, BME Clearing’s activities, currently covering financial derivatives, public debt repos and electricity derivatives, will extend to cash markets (equities and fixed income) in the context of the reform of the clearing and settlement activities in Spain referred to above.
The clearing activity is carried out through a ‘subjective novation’, whereby the CCP intervenes as a party to the contracts traded in the relevant market (as purchaser in relation to the selling party and as seller in relation to the purchasing party), guaranteeing full compliance with the relevant contract.
vi Other strategic considerations
Structural reforms: credit institutionsThe new institutional and legal framework for the Spanish banking system is in its final stages of implementation, in a process that commenced in 2012, expanded in 2013 and is likely to continue in the upcoming years.
One notable recent reform is Royal Decree 84/2015, of 13 February, implementing Law 10/2014, of 26 June, on the organisation, supervision and solvency of credit institutions, whose purpose is to continue adapting the Spanish legal system to the new provisions of Directive 2013/36/EU (also known as CRD IV) and Regulation (EU) No.
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575/2013 (also known as CRR), as well as the new provisions included in Regulation (EU) No. 1024/2013 with regard to the Single Supervisory Mechanism.
Furthermore, in February 2015 the Spanish government submitted a draft bill to Parliament on the restructuring and resolution of credit institutions and investment companies, whose purpose is to adapt the Spanish legal system to the new provisions of Directives 2014/59/EU and 2014/49/EU as well as of Regulation (EU) No. 806/2013, in particular with regard to the Single Resolution Mechanism and deposit guarantee schemes.
III OUTLOOK AND CONCLUSIONS
Taking into account the optimistic environment, the outlook for capital markets transactions in the fourth quarter of 2015, as well as 2016, continues to be generally promising. Recent increasing levels of activity in the capital markets are likely to persist, as Spanish issuers continue to seek to recapitalise themselves as well as diversify their sources of funding away from banking institutions.
Nevertheless, Spain’s structural problems as well as certain political instability caused by the elections to be held in the upcoming months may add some uncertainty to the outlook.
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Chapter 29
TANZANIA
Kamanga Wilbert Kapinga and Kenneth Mwasi Nzagi 1
I INTRODUCTION
The securities market in Tanzania emerged in the 1990s as a result of the government’s policy to liberalise the Tanzanian financial sector. The Capital Markets and Securities Authority (CMSA) was established by the Act of 19942 for the purpose of ‘promoting and facilitating the development of an orderly, fair and efficient capital market and securities industry in Tanzania’.
Alongside the Capital Markets and Securities Act of 1994 (which applies to both Tanzania Mainland and Zanzibar) the Banking and Financial Institution Act of 20063 (BFIA) has also been enacted with the aim of maintaining the stability, safety and soundness of the financial system. The provisions of the BFIA apply to all banks and financial institutions, and where there is a conflict between the BFIA and any provision of any law establishing a bank or financial institution, the provisions of the BFIA prevail. The BFIA also provides that any income earned from investment in two-year treasury bonds is subjected to withholding tax. Yet income on investments in five-year, seven-year and 10-year vehicles is exempted from withholding tax. All applicants exempted from paying withholding tax must provide to the Bank of Tanzania (BOT) tax exemption certificates from the Tanzania Revenue Authority (TRA), which is responsible for the administering of the central government taxes as well as several non-tax revenues and was established by the Act of Parliament No. 11 of 1995.
1 Kamanga Wilbert Kapinga is a senior associate at Mkono & Co Advocates and Kenneth Mwasi Nzagi is a legal officer at the Capital Markets and Securities Authority of Tanzania.
2 The Capital Markets and Securities Act, 1994 (Act No. 5 of 1994 as amended by Act No. 4 of 1997).
3 The Banking and Financial Institution Act of 2006 (Cap. 342).
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The Dar es Salaam Stock Exchange (DSE), which is responsible for the trading of shares and bonds, is regulated by the Rules of the Dar es Salaam Stock Exchange of 20144 and the Capital Markets and Securities Act.5 It was established in 1996 as a secondary market for both equity and debt securities and its primary aim is to provide a responsive security that will advance and liberalise Tanzania’s economic and financial sectors.
As of 15 September 2015, the DSE had 21 listed companies and seven cross-listed companies worth over US$5 billion. The seven cross-listed companies are Acacia Mining, East Africa Breweries, Jubilee Insurance, Kenya Airways, Kenya Commercial Bank Nation Media Group and Uchumi Supermarket. It is anticipated that the very successful Equity Bank Plc of Kenya will be listed by the end of 2015.
Mergers and acquisitions involving public listed companies are governed by the Capital Markets and Securities (Substantial Acquisitions, Takeovers and Mergers) Regulations 2006 (the Regulations), which came into force in December 2006. The Regulations mainly apply to acquisitions of an interest of between 20 and 75 per cent in public or listed companies and to mergers meeting such thresholds. A specialised committee, the Prospectus Evaluation Committee, is responsible for reviewing applications, pending the creation of a specialised Mergers and Acquisitions Committee. The Regulations contain:a lengthy and detailed provisions that ensure a transparent and efficient offering
system;b restrictions on dealings before, during and after the offering; andc shareholder disclosure requirements.
The acquisition of an interest of more than 90 per cent triggers the mandatory takeover and delisting sections of the Regulations. This means that the acquirer must either make a mandatory public takeover offer to all shareholders of the target or disinvest through an offer for sale or by a fresh issue of capital to the public to fall below the threshold.
On 19 September 2014 the limitations on foreign ownership of listed stocks were removed. The Capital Markets and Securities Authority (Foreign Investor) Regulations 2014 have lifted the restrictions on the foreign participation in government securities to the extent of 40 per cent and completely removing restrictions on foreign investors with regard to listed securities. The amended regulations provide that:a non-residents can participate in listed securities in Tanzania, except for government
securities (Regulation 3(1)); andb non-residents from East African countries can participate in government securities
up to 40 per cent of the amounts issued but none of the East African countries can exceed two-thirds of the 40 per cent (Regulation 3(2)).
The incentives to promote the participation of foreign investors in the capital markets sector remain the same, and are as follows:
4 The Dar es Salaam Stock Exchange Rules 2014 approved on 28 May 2014.5 The Capital Markets and Securities Act, 1994 (Act No. 5 of 1994 as amended by Act No. 4 of
1997).
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a zero capital gains tax as opposed to 10 per cent for unlisted companies;b zero stamp duty on transactions executed at the DSE compared to 1 per cent for
unlisted companies;c withholding tax of 5 per cent on dividend income as opposed to 10 per cent for
unlisted companies;d zero withholding tax on interest income from listed bonds whose maturities are
three years and above;e exemption of withholding tax on income accruing to fidelity funds maintained by
the DSE for investor protection; andf income received by Collective Investment Scheme (CIS) investors is tax-exempt.
i Local agencies’ and the central bank’s respective roles
The BOT acts as a banker and as a fiscal agent to Tanzania and the government of Zanzibar. The BOT issues treasury bonds on behalf of the two governments. The treasury bonds offered have maturities of two years, five years, seven years or ten years; they are issued at a fixed interest rate and quoted at premium or par value.6
The CMSA is the industry regulatory and supervisory body on the capital markets that licenses and regulates investment intermediaries and deals with exchanges with the issuance of and trade in securities. The CMSA has since promulgated a number of rules and regulations including those covering guidelines for the issue of corporate bonds and commercial paper, cross-listing disclosure guidelines, etc.
ii Structure of the courts, including any relevant specialist tribunals; trends reflected in decisions from the courts or other authorities
The High Court of Tanzania, Commercial Division is responsible for cases dealing with capital markets. Section 5(2) of the High Court (Commercial Division) Procedure Rules7 stipulates that to bring a commercial case in the commercial division the value of the claim shall be at least 1 million shillings in case of proceedings for recovery of possessions of immoveable property and at least 70 million shillings in proceedings where the subject matter is capable of being estimated at a monetary value.
As provided by Section 23 of the Capital Markets and Securities Act,8 if it appears to the Court that a person has committed an offence or contravened the conditions or restrictions or rules of the stock exchange, or is about to do an act with respect to dealing in securities that, if done, would be such an offence or contravention, it may within its powers make one of the following orders, but is not limited to these orders:a an order restricting a person acquiring, disposing of or otherwise dealing with any
securities that are specified in the order;b an order declaring a contract relating to securities to be void or voidable;
6 African Bond Markets: www.africanbondmarkets.org/countries/east-africa/tanzania/overview/69/.
7 The High Court (Commercial Division) Procedure Rules, 2012.8 The Capital Markets and Securities Act, 1994 (Act No. 5 of 1994 as amended by Act No. 4 of
1997).
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c an order directing a person to do or refrain from doing a specified act; andd in the case of persistent breaches of the Act or conditions or restrictions of a
licence, or of the rules or listing rules of the stock exchange, an order restraining a person from carrying in securities, acting as an investment adviser or as a dealer’s representative or investment representative, or from holding him or herself out as carrying on such business or so acting.
II THE YEAR IN REVIEW
In the past year we noted the extensive efforts of the CMSA in the establishment of the Commodity Exchange, which is currently on schedule as the Commodity Exchanges Act has been enacted. The exchange shall be called the Tanzania Mercantile Exchange (TMX) and at the moment an interim board has been established and the licensing of TMX is expected to be carried out by the end of 2015. TMX is expected to begin operations at some point between 2016 and 2018.
In the course of the year we have also seen the domestication of the first batch of approved EAC Council Directives on Capital Markets (EAC Gazette No. 7 of 2015) by the CMSA as part of the EAC Common Market Protocol. In line with the domestication of the EAC Council Directives, Tanzania has also been appointed as the permanent Secretariat of the East African Securities Regulatory Authority.
The year has also seen the launching of the e-trading system for securities which was largely used during the IPO of Mwalimu Bank that was officially launched on 8 April 2015. The usage of such technology has significantly changed the capital markets landscape in Tanzania. This was a historical moment for Tanzania as it has become the first country in the East African Community (EAC) and Southern African Development Community (SADC) regions in facilitating purchase of shares in the IPO using mobile phones. The number of equity capital market participants has increased to 435,000 as of 19 October 2015 from 200,000 on 20 August 2015, representing an increase of 118 per cent. Eighty-three per cent of the new participants were retail investors from upcountry regions. The system has contributed towards attainment of one of the goals under the National Financial Inclusion Framework of increased proximity and accessibility to financial services and products.
In the equities market the year saw the successful rights issue exercise of 435,306,432 ordinary shares at a price of 350 shillings by CRDB Bank Plc. The basis of the offer was one new share for every five shares; this was held on 18 June 2015. The offer was opened on 26 June 2015 and was closed on 16 July 2015. A total of 152.36 billion shillings was raised, representing 100 per cent subscription, which is a great sign for Tanzanian capital markets.
Lastly, the year saw a great many initiatives from the CMSA and the DSE that covered public awareness programmes, capacity building programmes for market participants, efforts to increase participation in the secondary market for government bonds, and further developments for mobile solutions for the retail bond market over mobile phones.
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i Developments affecting derivatives, securitisations and other structured products
In the past year we have not seen any developments affecting derivatives, securitisations and other structured products.
ii Cases and dispute settlement
There have been no recent developments in case law involving disputes relating to cross-border financial market activity or trading pursuant to market standard contracts.
iii Relevant tax and insolvency law
There have been no recent developments with regard to tax and insolvency law. The position remains that, pursuant to Section 82 of the Income Tax Act, a Tanzanian resident must withhold income tax if he or she pays to a non-resident a dividend, interest, natural resource payment, rent or royalty, and the payment has a source in Tanzania. Section 3 of the ITA defines ‘interest’ to mean a payment for the use of money and includes a payment made or accrued under a debt obligation that is not a repayment of capital and any gain realised by way of a discount, premium, swap payment or similar payment, payments made under a financial lease, transfers between a permanent establishment and its owner and non-compliance interests. In practice payments to be made under a transaction would fall within the meaning of ‘interest’ and as such would be subject to a 10 per cent withholding tax.
iv Role of exchanges
There have been no recent developments with regard to the role of exchanges on cross-border transactions, the position remains that the BOT issues foreign exchange circulars that are intended to guide banks and financial institutions involved in the administration and management of foreign exchange transactions. Although the government of Tanzania liberalised the exchange control regime in Tanzania, the Foreign Exchange Circular No. 6000/DEM/EX.REG/58 renders certain foreign exchange transactions subject to exchange control restrictions that vary depending on the type of transaction in question.
The range of foreign exchange transactions still subject to regulatory restrictions includes outward portfolio investments, foreign lending operations in favour of non-residents, and acquisition of real estate, outward direct investment and the operation of offshore foreign currency accounts by residents. All these require BOT approval. As a result of the recent initiatives to liberalise the capital account, the participation of non-residents in domestic money and capital markets is now allowed.
III OUTLOOK AND CONCLUSIONS
Overall, the outlook for the capital markets industry in Tanzania is very positive. The public awareness campaigns by the CMSA and the DSE have had a great impact as there is a growing interest in the capital markets products both locally and internationally; this was illustrated by the positive reception to the Eastern and Southern African Trade
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and Development Bank (PTA Bank) second Tanzanian shillings denominated bond in August 2015. The successful financial close of the 32.6 billion shillings denominated bond became oversubscribed by 103 per cent to 33.72 billion shillings. The PTA bond listing has increased the total number of outstanding listed corporate bonds to six, worth 66 billion from 33 billion shillings. This lifted total market capitalisation for equities and bonds to 28 trillion shillings. The funds raised were lent to government firms in development sectors such as power projects under Tanzania’s only power utility company (TANESCO). The bond will be paid back in local currency thus mitigating the currency exchange rate risk.
The government commended the CMSA and the DSE for the good performance of most listed securities with the concerted public awareness campaigns that have stimulated demand, making the equity market one of the most popular investment destinations. High demand for securities is witnessed by oversubscription of the issued securities. For example, the PTA bond listing is the 15th corporate bond to be listed and oversubscribed.
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Chapter 30
TURKEY
Umut Kolcuoğlu, Damla Doğancalı and Begüm İnceçam1
I INTRODUCTION
Turkey has been one of the fastest-growing economies over the last decade. Progressing towards European Union membership, Turkey has been experiencing stable growth in recent years. Turkey’s GDP grew by 4.1 per cent in 2013 and 3.3 per cent in 2014. In the first quarter of 2015, Turkey’s GDP has grown by 2.5 per cent and, in the second quarter, by 3.8 per cent2 and it has been the third-fastest growing economy among the European countries.
In parallel with a stable economic growth for the past 10 years, Turkish capital markets have also developed significantly in recent years and Turkey has taken strides towards its goal of becoming one of the significant and prominent international financial centres. One of the biggest drivers behind this development was the Istanbul International Financial Centre Project, which aims to make Istanbul a regional and global financial hub.
Under this project, for the development of capital markets and financial instruments, priority was given to the establishment of a solid legal infrastructure, the increase in diversity of financial products and services, and the improvement of regulatory and supervisory framework. To this end, starting from 2012, the fundamental principles governing Turkey’s corporate and financial legislation were revamped through
1 Umut Kolcuoğlu is a managing partner, Damla Doğancalı is counsel and Begüm İnceçam is a senior associate at Kolcuoğlu Demirkan Koçaklı Attorneys at Law.
2 www.tuik.gov.tr/HbGetirHTML.do?id=18729.
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the introduction of the Turkish Commercial Code,3 the Turkish Code of Obligations4 and the Capital Markets Law (CML).5
The CML, which became effective on 30 December 2012, constitutes a major reform for the Turkish capital markets and has introduced fundamental changes to the entire legal framework of the Turkish capital markets, as well as the organisation and structure of the capital markets. The CML is designed to modernise the Turkish capital markets legislation by aligning it with EU regulations and market practice, and since then, the Capital Markets Board of Turkey (CMB), the primary regulator and supervisor of the Turkish capital markets, has taken significant steps towards that goal by restructuring the secondary legislation in line with the CML.
The CMB, as the main authority of the Turkish capital markets, regulates and supervises public companies, listed companies, underwriters, intermediary institutions, exchanges, mutual, closed-end and pension funds, the Settlement and Custody Bank (Takasbank), the Association of Capital Market Intermediary Institutions of Turkey (TSPAKB), the Central Registry Agency (CRA) and other financial institutions operating in the Turkish capital markets, such as independent audit firms and rating agencies.
One of the most important novelties brought by the CML was the establishment of Borsa Istanbul as a new stock exchange. Upon the enactment of the CML, Borsa Istanbul has been established as a private joint-stock corporation to replace Istanbul Stock Exhange (ISE), and the ISE, Istanbul Gold Exchange and Derivatives Exchange merged into Borsa Istanbul. To this end, Borsa Istanbul brings together all the exchanges operating in the Turkish capital markets under a single entity.
Another development under the project was the formation of an independent and professional arbitration system in Istanbul. The Istanbul Arbitration Centre was established in early 2015.
II THE YEAR IN REVIEW
Following the enactment of the CML at the end of 2012, the Turkish capital markets legislation has been overhauled through the introduction of a number of communiqués issued by the CMB. The CML has encompassed greater flexibility and a greater role for the secondary legislation than the former in order to align the Turkish capital markets with the international standards and cope with the Turkish market’s needs.
To this end, the CMB has been adopting a number of new communiqués concerning different subjects ranging from corporate governance to tender offers in order to establish a robust system. While certain principles have been retained in the revamped regulations, crucial new tools and instruments have been introduced by the secondary legislation. On the other hand, introduction of new tools and substantial changes to the existing ones have resulted in heated debate among market players and investors in
3 Law No. 6102, published in the Official Gazette dated 14 February 2011.4 Law No. 6098, published in the Official Gazette dated 4 February 2011.5 Law No. 6362, published in the Official Gazette dated 30 December 2012.
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bringing regulations into practical life. The CMB had to consider the discussions and also made material changes in newly adopted communiqués.
The following is a summary of notable mechanics and novelties introduced by certain communiqués issued by the CMB including changes brought afterwards.
i Features of the secondary legislation
Material transactionsThe CML classifies a variety of transactions of public companies as ‘material transactions’ and provides additional rules to govern their mechanics, which is further elaborated on by the Communiqué on Common Provisions relating to Material Transactions and Exit Rights (II.23.1).6 Among others, mergers, demergers, type conversions, dissolution, transfer of all or a material portion of assets, granting privileges, amending the scope of existing privileges and delisting are considered as ‘material transactions’ for public companies.
In the event of a material transaction, the general assembly of shareholders’ approval is required for the public company to enter into such material transaction. Shareholders dissenting from the general assembly resolution pertaining to the material transaction have an exit right by selling their shares to the company itself. The exit right price must be equal to the 30-day weighted average of the stock price, this 30-day period ending on the day preceding the date on which the material transaction is disclosed to public.
DelistingDelisting is listed among the material transactions under the CML. While the exit right is the main tool for the minority shareholders to protect themselves from the adverse implications of the material transaction, the CML entitles the CMB to introduce a mandatory tender offer requirement for certain material transactions instead of the exit right. Accordingly, under the Communiqué on Common Provisions relating to Material Transactions and Exit Rights, delisting is listed among the transactions triggering a mandatory offer requirement in public companies.
In order to have the public company delisted from Borsa Istanbul, a single shareholder or shareholders acting together must own directly or indirectly 95 per cent or more of the voting rights of the public company. As a ‘material transaction’, delisting still requires the general assembly of shareholders’ approval, but shareholders who want to exit the company must sell their shares to the controlling shareholder through the tender offer. The company must apply to Borsa Istanbul and the CMB within five days following the date of the general assembly’s approval to initiate the tender offer process.
In the event of delisting, the mandatory tender offer price must be equal to the exit right price calculated based on the 30-day weighted average of the stock price, this 30-day period ending on the day preceding the date on which the delisting is disclosed to the public. This calculation method was heavily criticised by market players and investors and the CMB had drafted an amendment for provisions relating to the calculation of
6 Published in the Official Gazette dated 24 December 2013.
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mandatory tender offer price. However, the CMB then decided not to amend the pricing method and decided instead to amend the principles applicable to squeeze-outs.
Squeeze-outSqueeze-outs in public companies are regulated by the Communiqué on Squeeze-out and Sell out Rights (II-27.2).7 The communiqué regulates the squeeze-out of minority shareholders by the majority shareholder, as well as the minority shareholders’ exit right by selling their shares to the majority shareholder in public companies.
Squeeze-out was first regulated under the Communiqué on Squeeze-out and Sell out Rights (II-27.1), which had a different mechanism both process and pricing-wise. Since the Communiqué’s enactment, squeeze-out has been a crucial tool for public companies to go private rather than delisting. While delisting causes the company to go private together with the minority shareholders, who would continue to benefit from the protections available under Turkish law, squeeze-out forces the minority shareholders to exit the company. For this reason, a number of public companies applied to the CMB to exercise the squeeze-out and go private. Eleven months after its introduction, the original communiqué was abolished and a brand new communiqué entered into force.
According the Communiqué, if the total voting percentage of a shareholder or group of shareholders acting jointly reaches or exceeds 97 per cent8 or more in a public company, such shareholder or group of shareholders is deemed to be the ‘controlling shareholder’. The controlling shareholder can reach the threshold by way of different methods such as tender offer, merger, capital increase or otherwise. When the controlling shareholder reaches this threshold, minority shareholders can exercise their exit right and force the controlling shareholder to purchase their shares.
The minority shareholders must apply to the company within three months after the controlling shareholder reaches or exceeds the mentioned threshold. If the minority shareholders fail to apply to the company within such period, their exit right is terminated and the controlling shareholder can exercise the squeeze-out right and force minority shareholders to exit the company by applying to the company within three business days following the end of three-month period.
The Communiqué sets forth provisions on the squeeze-out and exit right prices’ calculation methods separately for publicly listed and unlisted companies.
Tender offersTender offers are regulated by the Communiqué on Tender Offers (II.26-1).9 If a person or group of persons acting in concert, directly or indirectly, acquires shares granting management control over a public company, such person or persons must make a tender offer to the other shareholders for the target company’s remaining shares under the terms and conditions approved by the CMB.
7 Published in the Official Gazette dated 12 November 2014.8 This ratio was 95 per cent until 31 December 2014. The ratio of 97 per cent will apply until
31 December 2017 and then it will increase to 98 per cent.9 Published in the Official Gazette dated 23 January 2014.
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Under the Communiqué on Tender Offers, a mandatory tender offer is triggered by ‘acquisition of management control’, which is defined as the acquisition – whether directly or indirectly, single-handedly or together with others acting in concert – of shares representing at least 50 per cent of the voting rights, or regardless of share percentage, privileged shares entitling the holder to appoint or nominate the majority of the board of directors. The Communiqué lists certain circumstances under which the mandatory tender offer requirement is not triggered despite a change in the target’s management control. The Communiqué also provides details on certain circumstances under which the CMB may grant an exemption from the tender offer requirement.
The Tender Offer Communiqué sets forth provisions on the process and the calculation of the mandatory tender offer price. It also provides guidelines for the price calculation in the event of indirect change in the target company’s management control (i.e., acquisition of the parent company’s shares or voting rights) and the presence of different share classes representing the target company’s share capital. If the offer price cannot be identified according to principles set under the Communiqué, the CMB may request a valuation report to determine the tender offer price.
If the mandatory tender offer is not launched within the period determined by the CMB, the offeror’s voting rights in the general assembly are automatically suspended and these voting rights are not taken into account in the meeting quorum at any general assembly meeting. Unless otherwise determined by the CMB, the suspension is automatically lifted upon the completion of the mandatory tender offer. In addition, the CMB may impose an administrative fine up to an amount equal to the value of the shares subject to the mandatory tender offer.
In addition to the mandatory tender offers, the Tender Offer Communiqué also regulates the voluntary tender offer process. A voluntary tender offer can be launched for the acquisition of all or part of a public company’s shares. However, if a partial voluntary tender offer results in the acquisition of ‘management control’ over the target, the offeror must make a mandatory tender offer for the target’s remaining shares. On the other hand, if management control is acquired following a voluntary tender offer made for all shares in the public company, a mandatory tender offer is not required.
The Communiqué sets forth no benchmark for the voluntary tender price and states that the offeror can increase the price or cover the offer to the rest of the shares if the offer submitted is only a part of the company’s shares, until the business day before completion of the offer period. If the voluntary tender offer price is increased, the offer period is extended for two weeks. If some shareholders sold their shares to the offeror before the increase, the difference must be paid to such shareholders within two business days of completion of the offer period.
Under the Tender Offer Communiqué, the target company’s board of directors is also involved in the voluntary tender offer process. Accordingly, the target’s board of directors must prepare a report on the offeror’s strategic plans towards the target and the potential consequences thereof, including the board’s opinion on the voluntary tender offer. This report must be publicly disclosed on the business day before the voluntary tender offer’s launch date.
For voluntary tender offers, the Tender Offer Communiqué introduces the ‘competing offer’ concept into Turkish legislation. Accordingly, a third party can launch a competing offer within the offer period and the shareholders who have accepted
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the original voluntary tender offer can refrain from selling their shares to the original offeror to the extent that they accepted the original voluntary tender offer before the announcement of the competing offer, and the share transfer has not been completed.
Share buybacksPublic companies can buy back their own shares in accordance with the Communiqué on Share Buybacks (II.22.1).10 The Communiqué also permits an affiliate to ‘buy back’ shares of a public company subject to the principles in the Communiqué.
If the public company plans to buy back its shares, the board of directors must prepare a share buyback programme and such programme must be approved by the general assembly of shareholders. Upon the general assembly of shareholders’ approval, the process is carried out by the board of directors. However, for listed public companies, if the share buyback is necessary for the company to avoid an immediate and material loss, the board of directors can initiate the buyback process without obtaining the shareholders’ approval.
The programme must contain or address, inter alia, the purpose of the share buyback, the term of the programme, the maximum number of shares to be purchased, information on the fund, the number of shares purchased in previous share buyback programmes, results of the previous share buyback programme, and information on the contemplated effects of the programme on the company’s financial status and activity.
The period of the programme is a maximum of three years for listed public companies and a maximum of one year for non-listed public companies. This period may be extended up to five years if the programme applies to a public company’s or its affiliates’ employees.
The total nominal value of the shares subject to buyback cannot exceed 10 per cent of the issued or paid-in share capital of the company. In addition, the total purchase price of such shares cannot exceed the total amount of the funds that can be distributed as dividends according to the CMB regulations.
Once the company completes the buyback of its shares, these shares are not taken into account at the calculation of the general assembly of shareholders’ meeting quorum. The company will not be entitled to exercise any of the rights attached to these shares save for dividend and pre-emptive rights.
The Communiqué on Share Buybacks includes detailed provisions on public disclosures, circumstances in which share buybacks cannot be performed and sale of shares bought back.
Equity offeringsEquity offerings are regulated by the Communiqué on Shares (VII-128.1),11 which provides a more straightforward and hassle-free process, in contrast to the legal regime of the former Capital Markets Law. In light of the CML, the Communiqué on Shares replaces the registration system with the prospectus system, which will enable companies
10 Published in the Official Gazette dated 3 January 2014.11 Published in the Official Gazette dated 22 June 2013.
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to issue consecutive securities under the same prospectus for a period of 12 months. This new system will certainly reduce the costs and bureaucracy related to security transactions, thus incentivising issuers to issue securities in Turkish capital markets and further encourage investors to invest and trade securities.
The Communiqué provides certain principles applicable to initial public offerings. Accordingly, in the event of an initial public offering, the capital of the company cannot include revaluation or other similar funds. In addition, the ratio of the non-commercial receivables from the related parties (as defined in the CMB’s regulations) to the total sum of the receivables cannot exceed 20 per cent. Moreover, the ratio of the non-commercial receivables from such related parties to the total assets cannot exceed 10 per cent. However, if the company undertakes to use the fund to be obtained from the public offering in the collection of the related party’s receivables, the CMB may permit the company to exceed such ratios.
Under the Communiqué, shareholders owning shares representing 10 per cent of the share capital or, regardless of the share percentage, shareholders having the management control of the company as of the date of the approval of the prospectus in the event of an initial public offering, cannot sell their shares on the stock exchange within one year at a price lower than the offering price from the date on which the shares begin trading on the stock exchange. Any transactions leading to a similar sale are also prohibited and the buyers intending to purchase such shares out of the stock exchange are also subject to this prohibition.
The Communiqué further enables publicly held listed companies to issue securities under nominal value. Accordingly, if the average of the 30-day weighted average of the stock price, within the last 30 days before the date on which the capital increase is disclosed to public, is below than the nominal value, the public company can issue the new shares under nominal value.
In parallel with the Turkish Commercial Code, the Communiqué also provides guidelines on public companies’ conditional capital increase processes.
ii Role of exchanges, central counterparties and rating agencies
As previously noted, Borsa Istanbul was established as a joint-stock corporation to replace the Istanbul Stock Exchange, and the Istanbul Gold Exchange and Derivatives Exchange were also merged into Borsa Istanbul.
In July 2013, Borsa Istanbul and Nasdaq OMX signed a strategic partnership agreement, under which Borsa Istanbul will integrate and operate Nasdaq’s market technologies for trading, clearing, market surveillance and risk management, covering all asset classes, including energy contracts.
In January 2015, Borsa Istanbul and the London Stock Exchange entered into a strategic partnership agreement. This partnership covers trade of derivatives of major Borsa Istanbul companies by the London Stock Exchange. With this partnership agreement, derivative products issued in Turkey and traded on Borsa Istanbul will start being traded on the London Stock Exchange’s markets.
Borsa Istanbul plans to list up to 42.75 per cent of its capital, through the sale of most of the shares now held by the Treasury. It is expected that the state-owned Borsa Istanbul will become a public company by the end of 2016.
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Borsa Istanbul and the European Bank for Reconstruction and Development (EBRD) signed an engagement letter on May 2015, under which parties started to negotiate the transfer of a 10 per cent share in Borsa Istanbul to the EBRD.
iii Other strategic considerations
Corporate governanceThe Corporate Governance Communiqué (II-17.1)12 determines the corporate governance principles applicable to public companies and rules and procedures for related-party transactions, guarantees and pledges. Although joint-stock corporations, publicly held but not listed, are not subject to corporate governance principles, the Communiqué grants the CMB the authority to require such companies to comply with certain principles.
Public companies are subject to different mandatory corporate governance principles. The Corporate Governance Communiqué classifies the public companies in three groups considering their systemic importance and based on their market value and share market value. Accordingly, application of mandatory corporate governance principles varies depending on which of the following groups a public company falls into:
First group Second group Third groupAverage market value Above 3 billion liras Above 1 billion liras Companies that are not
included in the first and second group
Average market value of free-float shares Above 750 million liras Above 250 million liras
Joint-stock corporations that are applying to the CMB for initial public offering or trading on Borsa Istanbul for the first time are considered under the third group and must comply with the corporate governance principles by their first general assembly meeting after being traded on Borsa Istanbul.
Public companies must prepare a corporate governance compliance report and specify the corporate governance principles that they are complying with and explain their reasons for not complying with the others in their annual reports. The Communiqué provides detailed provisions on corporate structure of public companies (e.g., the board of directors, the committees, voting rights), as well as collateral to be provided by public companies and related-party transactions.
For the definition of ‘related-party transactions’, the Communiqué refers to the Turkish Accounting Standards. On the other hand, it grants the CMB the authority to extend the scope of the implementation of the relevant provisions and thus to apply them to the transactions between public companies, its affiliates and their related parties. Accordingly, if the value of the transactions related to transfer of assets or services between the related parties exceeds the threshold set forth in the Communiqué, a valuation report must be prepared prior to entry into such transaction. The Communiqué also
12 Published in the Official Gazette dated 3 January 2014.
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provides guidelines on collaterals to be provided by public companies and restricts public companies to grant collateral other than entities listed in the Communiqué.
The CMB is entitled, ex officio, to adopt resolutions and take any necessary actions (e.g., filing for preliminary injunctions, filing lawsuits and appointing independent board members) to compel public companies to comply with the mandatory corporate governance principles.
III OUTLOOK AND CONCLUSIONS
With Turkey’s progression towards European Union membership, harmonisation of the legislative environment with EU regulations and market practice was a priority for the development and thus, modernisation of the Turkish capital markets. The establishment of the Istanbul International Financial Centre Project, which aims to make Istanbul a regional and global financial hub, was among the biggest drivers of this development.
Although the enactment of the CML and the secondary legislation constitutes a major reform in all aspects, the Turkish capital markets are still in the development stage and should be supported from various angles such as the establishment of a solid tax system and maintenance of political and economic stability, which will certainly help to attract financial investment. If the market uses the new enhanced regulatory infrastructure as well as the country’s rapidly growing economy wisely, the Turkish capital markets will be much more attractive over the coming years and could transform Istanbul into a global financial centre within the next few decades.
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Chapter 31
UNITED ARAB EMIRATES
Gregory J Mayew and Silvia A Pretorius1
I INTRODUCTION
The United Arab Emirates (UAE) was established in 1971 and comprises the seven emirates of Abu Dhabi, Ajman, Dubai, Fujairah, Ras Al Khaimah, Sharjah and Umm Al Quwain. Abu Dhabi is the capital of the UAE and is the site of a number of federal ministries, the Central Bank of the United Arab Emirates (the Central Bank) and other government institutions and agencies.
Under the UAE Constitution, each of the seven emirates retains substantial control over the conduct of governmental affairs within the emirate. With some exceptions, regulation of capital markets is generally a matter of UAE federal law.2
The legal system in the UAE (which includes UAE federal laws and individual emirate laws, such as those of the emirate of Dubai) is a developing system. UAE law does not recognise the doctrine of binding judicial precedent. In the absence of a doctrine of binding precedent, the results of one court case do not necessarily offer a reliable basis to predict the outcome of a subsequent case involving similar facts. Consequently, the UAE legal system may generally be regarded as offering less predictability than more developed legal systems.
In contrast, the Dubai International Financial Centre (DIFC) has been established as a financial free zone with its own body of laws and regulations, which are largely separate from the UAE legal system. The DIFC also has its own courts. The DIFC laws and rules of court are largely based on English common law and the procedural rules currently in place in England and Wales.
1 Gregory J Mayew is a partner and Silvia A Pretorius is a senior associate at Afridi & Angell Legal Consultants.
2 The most notable exception is the Dubai International Financial Centre (DIFC), which is discussed below.
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In February 2013, the creation of a new financial free zone in the emirate of Abu Dhabi was announced (Federal Decree No. 15 of 2013), and the Abu Dhabi Global Market (ADGM) was then established pursuant to Abu Dhabi Law No. 4 of 2013. The commercial rules and regulations have been enacted by the ADGM Board of Directors as from March 2015, with the draft financial services legislation and rules (which includes the Financial Services and Markets Regulations and accompanying rules) currently in open market consultation. ADGM began issuing licences to non-financial services entities in May 2015 and aims to begin processing its first financial services licence applications in the final quarter of the year.
The UAE Constitution provides for a federal court system but permits each constituent emirate to opt out of this and maintain an independent court system. The emirates of Sharjah, Ajman, Fujairah and Umm Al Quwain have joined the federal court system. The emirates of Dubai and Ras Al Khaimah each maintain separate court systems. Since 2006, the emirate of Abu Dhabi has also maintained its own court system.
The UAE capital markets are young and still developing. There are currently three securities exchanges in the UAE, all of which are less than 15 years old: the Abu Dhabi Securities Exchange (ADX), the Dubai Financial Market (DFM) and NASDAQ Dubai. In addition the UAE is home to the Dubai Multi Commodities Centre (DMCC) and the Dubai Mercantile Exchange Limited (DME). In 2014, the creation of a ‘second market’ where shares in private joint-stock companies would be eligible for trading was launched.
Regulation of securities and financial markets in the UAE is a potential source of confusion to investors and financial institutions. Generally speaking, there are two different regulatory schemes. The first is the UAE federal regulatory scheme. The second is the regulatory scheme applicable in the DIFC. With regard to the laws and regulations affecting capital markets, the DIFC is effectively a different jurisdiction altogether, with rules and regulations that differ significantly from the UAE federal regulatory scheme.3 A detailed discussion of the DIFC scheme is beyond the scope of this chapter, which deals primarily with the UAE federal scheme.
Historically, regulation of securities trading and transactions involving investment products was the domain of the Central Bank. The Central Bank is entrusted with the issuance and management of the country’s currency and the regulation of the banking and financial sectors. A governmental agency, its capital is fully owned by the federal government and it has its headquarters in Abu Dhabi. The Central Bank acts as the UAE’s central bank and regulatory authority, directing monetary, credit and banking
3 The DIFC is often a source of confusion to international investors who are not familiar with the UAE. The DIFC is a financial free zone established in the emirate of Dubai. It should not be confused with the emirate of Dubai itself. As noted above, the DIFC has its own laws and regulations, which differ considerably from the laws and regulations applicable to capital markets and securities transaction outside the DIFC. The DIFC regulatory scheme applies only within the DIFC. The UAE federal regulatory scheme applies everywhere in the UAE (i.e., in all seven emirates), except the DIFC. The DIFC has its own regulator, the Dubai Financial Services Authority (DFSA).
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policy for the entire country (other than inside the DIFC). The individual emirates do not have separate corresponding institutions. The Central Bank is also empowered to set the exchange rate of the dirham against major foreign currencies.
In 2000, the Emirates Securities and Commodities Authority (SCA) was created. Until 2009, the SCA generally limited its regulatory oversight to publicly listed UAE companies and the public securities exchanges in the UAE. In recent years, the regulatory responsibility of the SCA has expanded considerably and the SCA is now the primary regulator of capital markets under the UAE federal scheme. The shift in regulatory responsibility over foreign securities from the Central Bank to the SCA has occurred gradually over time pursuant to an unpublished memorandum of understanding between the Central Bank and the SCA. The public is informed of regulatory developments as and when the SCA publishes new regulations. In addition, the SCA has adopted regulatory procedures and practices, some of which are not published.
Financial markets in the UAE are young and still developing. In June 2013, Morgan Stanley Capital International (MSCI), which maintains the most widely used equity index in the world, upgraded the status of the UAE capital markets from frontier to emerging market status. While the promotion of the UAE capital markets was first announced in 2013, it became effective in May 2014 with the changes to the indexes. At such time, MSCI added nine UAE companies to its benchmark emerging markets index for the first time. Subsequent to the decision to upgrade the UAE markets, and in an attempt to meet listing conditions under MSCI Indexes over the coming period (which requires, in addition to other conditions, that listing conditions include permitting foreign ownership at acceptable rates), a number of companies listed on the ADX and the DFM decided to raise the percentage of foreign ownership.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
In 2012, the SCA issued Board Resolution No. 37 of 2012 Concerning the Rules of Investment Funds, as amended4 (the Fund Regulations), which became effective on 27 August 2012.
These much anticipated Fund Regulations introduced significant changes to the UAE regulatory scheme, specifically in the following areas:a primary responsibility for overseeing the licensing, regulation and marketing of
investment funds in the UAE was formally transferred from the Central Bank to the SCA;5
4 See also SCA Board Resolution No. 13 of 2013 Amending the Regulations for Investment Funds, which amended certain provisions of SCA Board Resolution No. 37 of 2012.
5 However, Article 29 of the Regulations expressly provides for the Central Bank to continue to exercise supervision over the financial position of investment funds established and licensed under the Fund Regulations. The transfer of authority from the Central Bank to the SCA had already occurred but prior to issuing the Fund Regulations, the SCA had not issued any final rules or regulations.
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b SCA approval is required for the establishment of a local investment fund, which is any investment fund established in the UAE, excluding the free zones, and licensed by SCA;
c SCA approval is required for the marketing and promotion of foreign funds to investors in the UAE. The Fund Regulations define a foreign fund as ‘a mutual fund established outside the UAE under the laws and regulations in force in a foreign country’; and
d with limited exceptions, the marketing of a foreign fund to investors in the UAE requires the appointment of a UAE-licensed local promoter.
The Fund Regulations do not apply to the accumulation of funds for purposes of investment in a joint bank account; concluding group insurance contracts; participation in social security, employee motivation programs, or fund accumulation for the purposes of forming any type of company mentioned in the Commercial Companies Law. They also do not apply to structured or compound products or mutual funds linked with insurance or security contracts or investment portfolios managed by their owners or SCA-licensed companies, or private investment portfolios managed by investment banks and companies.
With limited exceptions, no foreign fund may be offered, marketed, advertised or distributed within the UAE prior to obtaining approval of the promotion from SCA. The exceptions pursuant to which a foreign issuer may market mutual funds without SCA approval are where the fund is marketed to:a financial portfolios owned by federal or local government agencies; or companies,
institutions or entities whose main purpose (or one of their purposes) is to invest in securities for their own account and not on account of their customers;
b corporate entities licensed to practise the activity of investment management provided that the entity is authorised to make and execute any investment decision; and
c UAE-based investors who have approached the fund outside the UAE with regard to an investment in the fund.6
As noted above, a foreign entity wishing to promote a foreign fund in the UAE will not be able to do so without appointing a local promoter. The Fund Regulations provide that the local promoter must be a bank or an investment company licensed by the Central Bank or a company licensed for this purpose by the SCA.
Article 38 of the Fund Regulations provides that the units of a foreign fund may be promoted within the UAE in private offerings through the representation or branch office of a foreign company that has already obtained the approval of the fund or its
6 While this reverse solicitation exemption is not included in the Fund Regulations, the SCA released a statement in Arabic on its website explaining that Board Resolution No. 37 of 2012, as amended, shall not apply to the transactions involving the sale of units in foreign investment funds to UAE-based investors when these investors approach and send enquiries to the concerned fund or its promoters or distributors outside the UAE with the aim of investing in such fund.
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representative to promote the fund, or by an entity licensed by the SCA to promote securities, provided that the promotion is to institutions only and subject to a minimum of 10 million UAE dirhams per subscriber.
The Fund Regulations apply to both private and public placements. A distinction is, however, made between public and private offerings with regard to their methods of promotion and determination of target investors, and the minimum subscription per single investor.
The methods of promotion of foreign fund units approved by the SCA to be promoted within the UAE in a public offering must be made through ‘all methods of promotion and for all investors’, whereas the methods of promotion of foreign fund units approved by the SCA to be promoted within the UAE in a private offering must be confined to ‘direct contact with predetermined persons’.
The minimum subscription per single investor in the units of a foreign fund approved by the SCA to be promoted in a private offering shall be the limit set out in the offer document, provided that it is no less than 500,000 UAE dirhams for a foreign fund and 1 million UAE dirhams for a fund established in a free zone outside the UAE.
There is no restriction on the minimum subscription per investor in the units of a foreign fund approved to be promoted within the UAE in a public offering, as this amount shall be the limit set out in the offer document.
Pursuant to Article 35 of the Fund Regulations, a foreign fund wishing to obtain the approval of the SCA to promote its units within the UAE in a public offering must satisfy the following prerequisites: the foreign fund must be established in a foreign country and be subject to the control of a supervisory authority similar to the SCA, and the foreign fund must be licensed to promote public offerings in its home country.
In addition to foreign funds, the SCA has assumed oversight responsibilities in relation to the marketing of most types of foreign securities in the UAE. Specifically, the SCA has regulatory oversight with regard to matters pertaining to plain vanilla (non-listed foreign) security products, while the Central Bank still retains oversight authority with regard to sophisticated products such as credit linked notes. To date, the SCA has issued regulations relating to the marketing of mutual funds (the Fund Regulations) but not other types of foreign securities. The SCA is expected to issue regulations on the marketing and promotion of non-listed foreign securities (other than mutual funds) in due course. In the meantime, the SCA’s approach (i.e., its regulatory practice) to the regulation of other types of foreign securities is similar to its approach to the regulation of foreign mutual funds.
In addition to regulations relating to investment funds, the SCA has been active on a number of other fronts. Recently, the SCA has issued a series of regulations governing market making, securities lending and borrowing, short selling and liquidity.7
7 See SCA Board Resolution No. 46 of 2012, Concerning the Regulations as to Market Maker, as amended by SCA Chairman Resolution No. 26 of 2014, SCA Board Resolution No. 47 of 2012 Concerning the Regulations as to Lending and Borrowing Securities, SCA Board Resolution No. 48 of 2012 Concerning the Regulations as to the Short Selling of Securities, and SCA Board Resolution No. 49 of 2012 Concerning Regulations as to Liquidity Provision.
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Market making is defined in these regulations as the activity of providing continuous prices for the purchase and sale of certain securities to increase the liquidity of such securities in accordance with market maker regulations. The practice of market making requires a licence from the SCA. An applicant for such a licence must be a corporate person with paid capital of at least 30 million UAE dirhams (or its equivalent) meeting any of the following criteria:a a company established in UAE with at least 51 per cent UAE ownership or the
nationality of one of the Gulf Cooperation Council (GCC) states. One of its purposes must be to practise market making; or
b a company established in the UAE and licensed by the SCA to operate in the field of securities, in which case the applicant shall be subject to the controls issued by the Authority concerning the prevention of conflicts between activities; or
c a commercial bank or investment company licensed by the UAE Central Bank, or a branch of a foreign bank, provided that the parent bank is licensed to practise this activity, and subject to obtaining the approval of the UAE Central Bank in any of these cases.
Any investor is permitted to lend securities owned by that investor, but the borrowing of securities, unless otherwise approved by the SCA, is permissible only when carried out by a licensed market maker practising market making or by the clearing department of an exchange in the case of a failure to deliver sold securities on the settlement date.
Licensed market makers are permitted to engage in short selling. Each exchange has the power to determine the securities eligible for short sales provided that short selling is not permitted until one month after a company’s initial listing. In addition, short selling is not permitted for a subscription in capital increase shares or in covered warrants. More generally, each exchange has the power to create its own rules governing short selling procedures provided that these rules are subject to SCA approval.
Duly licensed market makers are also permitted to act as liquidity providers by entering into agreements with issuers of listed securities provided that the liquidity provider cannot at any time own more than 5 per cent of the listed securities. All liquidity provision agreements must be disclosed to the SCA and the exchange on which the securities are listed and the exchange in turn shall disclose the agreement to the public.
In March 2013, the SCA amended its regulations regarding disclosure and transparency requirements for listed companies.8 As amended, the regulations require at least two days’ advanced disclosure to the SCA and the relevant exchange of the date and times of any meetings of the board of directors in which the board is to discuss resolutions having an effect on the price and movement of shares, such as cash distributions, bonus shares, capital increases (or decreases), subdividing the nominal value of shares, purchase by the company of its own shares and quarterly or annual financial statements. All resolutions and financial statements approved by the board of directors in any such meetings must be immediately disclosed to the SCA and the relevant exchange. Trading
8 See SCA Board Resolution No. 16 of 2013 Concerning the Amendment of the Regulations on Disclosure and Transparency, which amended certain articles of SCA Resolution No. 3/R of 2000 Concerning the Regulations as to Disclosure and Transparency.
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of shares will be suspended until such disclosure is made. A partial exception exists for banks and other companies that require Central Bank approval before making such disclosures. In such cases, disclosure is not required until the Central Bank’s approval has been granted. In addition, listed companies are required to provide the SCA and the relevant exchange with all resolutions passed by a general assembly of shareholders immediately after such resolutions have been passed.
In June 2013, the SCA issued Board Resolution No. 38 of 2013 Concerning the Trading of Rights Issue for Capital Increases. A rights issue can be listed and traded subject to the provisions of this resolution. A rights issue is defined therein as a financial instrument representing rights that are granted to a company’s shareholders to have priority to subscribe for shares in such a company’s capital increase.
In January 2014, the SCA issued Board of Director’s Decision No. 1 of 2014 Concerning the Regulations on Investment Management (the Investment Management Regulations), which became effective on 28 February 2014. This Decision defines investment management as management of securities portfolios for the account of third parties or the management of mutual funds.
With limited exceptions (the promotion of financial portfolios owned by federal and local government entities), any entity wishing to carry on or promote investment management activities in the UAE must obtain a licence from the SCA. Applicants must meet strict eligibility criteria and must have a paid-up capital of no less than 5 million UAE dirhams and a bank guarantee of 1 million UAE dirhams. There are also conditions to be met relating to technical and administrative staff, the entity’s premises, required electronic and software programs, internal control systems, and an operational guide for risk management systems.
In April 2014 the SCA issued two new regulations: Board of Directors’ Decision No. 16 of 2014 Concerning the Regulation of Sukuk (the Sukuk Regulations) and Board of Directors’ Decision No. 17 of 2014 Concerning the Regulations of Debt Securities (the Debt Securities Regulations).
Sukuk are defined as tradable financial instruments of equal value which represent a share of ownership of an asset or a group of assets and are issued in accordance with shariah law.
Retail sukuk may only be issued in the UAE through public subscription, and approval must be obtained from the SCA before issuing or listing any sukuk on the market in accordance with the provisions of these Sukuk Regulations. Excluded from the provisions of the Sukuk Regulations are government sukuk and sukuk which will not be offered through public subscription and will not be listed on the market. A condition for the principal listing of retail sukuk is that the applicant must be established in the UAE and outside a financial free zone.
Other issues covered under the Sukuk Regulations include the procedures and documents required for approval by the SCA of primary and joint listings of sukuk, the establishment of an SCA sukuk register, as well as trading, clearance and settlement of sukuk, and suspension and cancellation of listing.
The Debt Securities Regulations replace SCA Board Resolution No. 94/R of 2005 Concerning the Listing of Debt Securities. Debt Securities are defined to be tradable financial instruments of equal value evidencing or creating indebtedness on the issuer, whether secured or unsecured. The Debt Securities Regulations state that with
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the exception of government corporate bonds, no corporate bond shall be issued and offered for public subscription in the UAE without first obtaining the SCA’s approval. The corporate bonds must also be listed on the market. To be listed, debt securities must satisfy the following conditions:a they must comply with the provisions of the Commercial Companies Law and
with the issuer’s constitutional documents;b unless the SCA decides otherwise, the aggregate value of all debt securities to
be listed must be at least 10 million UAE dirhams or the equivalent thereof in a foreign currency that is acceptable to the SCA and the market; and
c where the debt securities sought to be listed are secured debt securities, a trustee must be appointed to represent the interests of the holders of such debt securities and that trustee must have the right of access to any information relating to the assets.
The Debt Securities Regulations provide that the general assembly must approve the issuance of corporate bonds if the issuer is a joint-stock company, and that subscription announcement must be prepared and presented according to the format approved by the SCA.
The Debt Securities Regulations also require non-goverment issuers to obtain SCA approval before publishing any document or making any announcement inside the UAE relating to the listing of corporate bonds. The documents or announcement must clearly indicate that SCA approval was granted for publication. This requirement is also applicable to sukuk.
Both the Sukuk Regulations and the Debt Securities Regulations provide that neither the SCA nor the markets shall have any responsibility for any information (lists, financial statement, financial data, information, reports or any other documents) presented by the applicant or issuer.
The SCA issued Board of Directors’ Decision No. 27 of 2014 on the Regulation of Securities Brokerage in July 2014. The regulation classifies brokerage firms into those which engage in trading only while the clearance and settlement operations are conducted through clearance members and those which engage in trading clearance and settlement operations for their clients.
Some of the features of the new Regulation include the new classification of brokerage firms, new capital requirements (3 million UAE dirhams with respect to the brokerage company (trading member) and 10 million UAE dirhams for the brokerage company (trading and clearing member)), and increases in the value of bank guarantee requirements. Under the new regulation, no company shall engage in brokerage activity without a licence from the SCA and registration in the SCA Register for brokers.
In July 2014 the SCA also introduced controls for brokerage firms trading for their clients in foreign markets whereby a brokerage firm may trade for its clients in the foreign markets in the normal way of trading, or using accounts only after obtaining the approval of the SCA.9
9 See SCA Administrative Decision No. (86 / r.t) of 2014 Concerning the Controls of Trading by Brokerage Firms for their Clients in Foreign Markets.
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The SCA issued Board of Directors’ Decision No. 10 of 2014 Concerning the Regulation of Listing and Trading of Shares of Private Joint Stock Companies, which provides the conditions under which private joint-stock companies would be able to list their shares on the market, including the requirement that the capital be paid in full, that the audited budget be issued for the last two fiscal years and that the company facilitate the trading of its shares through brokerage companies licensed by the SCA. Private joint-stock companies that are listed on the market shall be exempt from Ministerial Resolution No. 518 of 2009 concerning the Governance Rules and Corporate Discipline Standards, Ministerial Resolution No. 370 of 2009 concerning the Share Register of Private Joint-Stock Companies and the SCA Board of Directors’ Decision No. 3/R of 2000 concerning the Regulations as to Disclosure and Transparency.
The much-anticipated new UAE Commercial Companies Law (Federal Law No. 2 of 2015) (the Commercial Companies Law) was issued on 1 April 2015 and came into force on 1 July 2015. The provisions relating to corporate governance have been significantly enhanced. Proposed further regulations by the Ministry of Economy and by the SCA will provide further focus on corporate governance. Some of the most significant amendments relate to public companies and capital markets. The minimum free float permitted in an initial public offering (IPO) has been reduced from 55 per cent to 30 per cent, with the maximum proportion that can be floated decreased from 80 per cent to 70 per cent, the share price can now be determined by way of a book building process, and shares can be issued at a premium. The new law authorises the concerned authorities to introduce subordinated legislation in a number of areas, including the governance rules noted above, regulations on IPOs, rules on the formation and qualification of shariah boards, the creation of different classes of shares and their rights, and regulation of book-building. For public joint-stock companies, the minimum share capital requirement of 10 million UAE dirhams has been increased to 30 million UAE dirhams. The concept of authorised (but not issued) share capital has been introduced. Public offers of subscription to shares are expressly prohibited without SCA consent.
The Commercial Companies Law prohibits any company, other than a public joint-stock company, from offering any securities in an IPO. In all cases, no company, or natural or corporate person incorporated or registered anywhere in the world may publish any advertisements in the UAE which include a call for an IPO in securities prior to obtaining the approval of the SCA. This prohibition has also been introduced by the SCA.10
A company may now issue shares to a ‘strategic partner’ (i.e., an investor from a related industry sector to the company’s own) through a capital increase on terms approved by special resolution of the shareholders, without needing to comply with pre-emption rights.
The Commercial Companies Law has introduced the concept of investment funds incorporated as separate legal personality in the form of common investment companies.
10 See SCA Board of Directors’ Decision No. (18) of 2015 Amending Certain Articles of the Regulations as to Disclosure and Transparency.
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ii Developments affecting derivatives, securitisations and other structured products
Derivative products have been marketed and sold in the UAE for many years. There have been no significant recent changes to the rules and regulations affecting such products.
Securitisation transactions are extremely rare in the UAE as the existing legal and regulatory environment is not well suited to structuring such transactions. There have been no significant recent developments.
iii Cases and dispute settlement
As noted above, capital markets in the UAE are young and developing. The UAE achieved emerging market status only within the past year. The UAE is not a common law jurisdiction and the doctrine of binding judicial precedent is not followed. As of yet, there is an absence of significant court cases regarding securities law matters and no significant recent developments.
iv Relevant tax and insolvency law
With limited exceptions, the UAE is (as a matter of practice) a tax-free jurisdiction. There is no federal income tax law in the UAE nor are there any federal taxes on income. There is no personal income tax.
Corporate income tax statutes have been enacted in most of the emirates (all of which predate the formation of the UAE in 1971), but they are not implemented.11 Instead, corporate taxes are collected with respect to branches of foreign banks (at the emirate level) and courier companies (at the federal level). Further, taxes are imposed at the emirate level on the holders of petroleum concessions at rates specifically negotiated in the relevant concession agreements. Taxes are imposed by certain emirates on some goods and services (including, for example, sales of alcoholic beverages, hotels, restaurant bills and residential leases). There is no sales tax or VAT in the UAE.
Having said that, there has been notable headway on the move to introduce both VAT and corporate tax in the UAE.
In May 2015, the Member States of the GCC concluded a draft agreement on implementing a GCC-wide value added tax. The agreement was reached at the 100th meeting of the GCC Financial and Economic Cooperation Committee (FECC) in Doha, with a levy of between 3 and 5 per cent proposed by the FECC. Kuwaiti Finance Minister Anas Al-Saleh was quoted by the Kuwait News Agency as saying that the draft agreement provides that each GCC state will be allowed to introduce its own VAT regime, providing that common principles are adopted by all GCC states.
On 2 July 2015, the UAE’s Ministry of Finance (MOF) announced that progress had been made on drafting the federal corporate tax and value added tax laws, and that these drafts had been discussed with local and federal governments. The MOF suggested
11 Each emirate, except for Umm Al Quwain, has an income tax decree. The income tax decrees of the emirates of Fujairah (1966), Sharjah (1968), Ajman (1968), Dubai (1969) and Ras Al Khaimah (1969) are based on, and broadly similar to, the emirate of Abu Dhabi Income Tax Decree of 1965.
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that the laws should be finalised by the third quarter of this year, and while the UAE Cabinet has approved the corporate tax policy, there are still many stages to go through before the laws are enacted, and thus there is still no firm timeline for the implementation of either the corporate tax or the VAT law.
Bankruptcy rules were enacted in the UAE in 1993 pursuant to UAE Federal Law No. 18 of 1993 promulgating the Code of Commercial Practice (the Commercial Code). These rules, set out in Volume V of the Commercial Code, are largely untested in the courts. Instead, insolvency cases are often resolved between debtors and creditors under alternative administrative proceedings or through negotiated settlements.
The economic slowdown that affected the UAE following the global financial crisis highlighted the inadequacy of the existing bankruptcy and insolvency law. While many UAE-based businesses experienced financial duress, the existing laws relating to restructuring and insolvency remain largely untested and a long-awaited modern bankruptcy law has yet to be enacted.
In addition to the Commercial Code, the Commercial Companies Law contains provisions for the dissolution of a company. The Penal Code of the UAE (contained in Federal Law No. 3 of 1987) also contains criminal sanctions for bankrupts.
The Commercial Companies Law provides for the dissolution of a company in certain prescribed circumstances, including where the losses to a company amount to half of its capital. All debts of the company become due and owing upon the company’s dissolution. If the company’s assets are not sufficient to meet all of the debts, then the liquidator is required to make proportional payment of such debts, without prejudice to the rights of preferred creditors. Every debt arising from acts of liquidation must be paid out of the company’s assets in priority over other debts.
Existing insolvency law in the UAE is generally recognised as being inadequate. This is perhaps best illustrated by the Dubai World debt crisis in 2009 in which the government of Dubai, in implicit recognition of the inadequacies of existing insolvency law, created a special law and a special tribunal to deal with debts of one of Dubai’s largest companies.12
Dubai World is a holding company with a diverse portfolio of investments. Dubai World encountered significant financial difficulties resulting in the promulgation of Decree No. 57 for 2009 (Establishing a Tribunal to decide the Disputes Related to the Settlement of the Financial Position of Dubai World and its Subsidiaries). This law provides for the formation of a tribunal that has jurisdiction to, inter alia, hear and decide any demand or claim against Dubai World or its subsidiaries. Under the above-mentioned law, any dissolution or liquidation matters relating to Dubai World or its subsidiaries will be dealt with in accordance with such law.
12 Another relevant example is the emirate of Dubai’s decision to create a special judicial committee to decide the fate of cancelled real estate projects. Recently, the Ruler of Dubai, issued Decree No. 21 of 2013 concerning the formation of a special judicial committee for the liquidation of cancelled real estate projects in the emirate of Dubai and the settlement of relevant dues.
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The UAE is expected to promulgate a new bankruptcy law that will repeal the relevant provisions of the Commercial Code in the future, although such a law has been anticipated for several years. The new law is expected to introduce financial reorganisation procedures and a protective composition process. The law is also expected to introduce a personal insolvency regime, including an insolvency procedure for non-traders. The time frame for the realisation of the new law cannot be predicted.
v Role of exchanges, central counterparties and rating agencies
The SCA is responsible for the regulatory oversight of the ADX and the DFM.13 In addition to the rules and regulations of the SCA, each exchange has its own rules and regulations.
The ADX and the DFM each have a Clearing, Settlement, Depository and Registry Department that operates a clearing, settlement and depositary system (CSD), which is responsible for clearing and settlement of the transactions executed on the exchange. Each of these exchanges follows a multilateral netting system under which transactions are cleared and settled on a net basis by brokers. After the clearing of the transactions by the exchange, the transfer of securities ownership is made through the electronic book-entry system operated by the exchange.
To buy or sell securities listed on the ADX or the DFM, an investor must apply for and be granted an identification number called an investor number (IN) by the relevant exchange. The issuance of an IN by an exchange triggers the creation of an investor account for the custody of shares traded on the exchange (custody account). The IN identifies the investors account in the CSD. In addition to the Custody Account, every investor must have at least one trading account with a licensed broker (trading account).
All shares traded on the ADX and the DFM are in dematerialised (electronic) form. Ownership of shares is reflected in a computerised credit entry in the investor account.
All trading is done through licensed brokers. An investor must have at least one trading account with a licensed broker and can have accounts with multiple brokers. To open an account with a broker, an investor has to enter into a customer agreement with the broker. The investor must also give the broker a power of attorney authorising the broker to execute any written share transfer form on behalf of the investor in relation to any trades executed on the applicable exchange by the broker. The broker will process buy or sell orders from the investor upon receipt of instructions in the manner specified in the customer agreement.
To sell listed securities, an investor must transfer the securities from his custody account to his trading account with a broker. Upon receiving a sell order, the broker will record the order into the electronic trading system. The system matches buy and sell orders of a particular stock based on the price and quantity requirements. The cash
13 The SCA does not regulate NASDAQ Dubai, which is regulated by the Dubai Financial Services Authority (DFSA) and is part of the separate regulatory regime applicable in the Dubai International Financial Centre (DIFC). As noted above, the regulatory scheme applicable in the DIFC is beyond the scope of this chapter.
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settlement is done among brokers through the designated settlement bank. Once the trade is executed, the investor will be notified of the deal confirmation and the transfer of share ownership occurs electronically by debits and credits to the custody accounts of the seller and buyer.
As a legal matter, the transfer of securities occurs by way of contractual assignment. At the time the seller of securities transfers the securities from his or her custody account to his or her trading account with a broker the obligation to settle transfers to the broker. However, the seller is still at risk up until the time payment is actually received. Every broker is required to submit a bank guarantee of at least 10 million UAE dirhams and the seller may draw upon this guarantee if payment is not received.
While each of the ADX and the DFM operates a CSD, neither acts as a central counterparty in the sense that neither legally guarantees the completion of transactions on the exchange. The economic risk of clearing and settlement is intended to be addressed by the bank guarantees required by each accredited broker and the trading limits imposed on the brokers.
There are no UAE-based rating agencies. Some UAE issuers have securities rated by international rating agencies such as Moody’s and Standard & Poor’s.
vi Other strategic considerations
Under current law, all companies incorporated in the UAE must have majority UAE ownership. In addition, the authorities impose additional restrictions on the ownership of some publicly traded companies. As a result of these restrictions, the demand from foreign investors for shares in certain publicly traded companies may, at times, exceed the numbers of shares permitted to be sold to foreign nationals. Many UAE banks will hold shares in publicly traded companies on behalf of clients through custodial arrangements. A riskier strategy for investors is to use an unregulated individual holding UAE nationality as a proxy to hold shares on the investor’s behalf.
It is possible to register a security interest over listed securities with the relevant exchange. In practice, however, the registration fees charged by the ADX and the DFM are often deemed to be prohibitively expensive by investors and secured parties, who sometimes opt for the cheaper but far riskier (from the perspective of the secured party) alternative of an unregistered contractual pledge.
III OUTLOOK AND CONCLUSIONS
The pace of legislative and regulatory change has been slow but the adoption of the a long-awaited revision of the Commercial Companies Law in 2015 was a significant development. A long-awaited new bankruptcy law has yet to materialise. The most significant changes in the coming years may be in the area of taxation. The UAE has long been a tax-free haven but lower oil prices and a desire to diversify the economy mean both federal corporate taxation and value added tax are under serious consideration. Indeed, such proposals were under consideration before the drop in oil prices. While timing is difficult to predict and the enactment of tax legislation is not a certainty, some experts expect to see federal corporate taxation and VAT implemented in the next few years.
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Chapter 32
UNITED KINGDOMTamara Box, Ranajoy Basu, Nick Stainthorpe, Caspar Fox, Roy Montague-Jones, Jacqui Hatfield and Winston Penhall 1
I INTRODUCTION
i ‘Twin Peaks’ system of regulation: the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA)
The PRA, which is an independent subsidiary of the Bank of England, is in charge of the forward-looking micro-prudential regulation of systemically important firms such as credit institutions, insurers and some investment firms. PRA regulated firms are dual-regulated firms as the FCA also regulates such firms’ conduct. Announced during 2015, the government is proposing to bring the PRA wholly within the structure of the Bank of England, by ending its status as a subsidiary and creating a new Prudential Regulation Committee within the Bank. This proposal was recommended by the Bank of England in its report Transparency and Accountability at the Bank of England, published in December 2014.
The FCA is a separate entity to the Bank of England and PRA and is broadly responsible for the conduct of business regulation of all firms (including dual-regulated firms), the prudential regulation of firms not regulated by the PRA and market conduct. The FCA has been given certain new powers under the Financial Services Act, including the power to make temporary (up to 12 months) product intervention rules (the FCA can both block a product launch and require that an existing product be withdrawn) and the power to require a firm to amend or withdraw financial promotions that it deems to be misleading, with immediate effect.
1 Tamara Box, Ranajoy Basu, Nick Stainthorpe, Caspar Fox, Roy Montague-Jones, Jacqui Hatfield and Winston Penhall are partners at Reed Smith. The authors would like to thank Joanna Williams, Andrzej Janiszewski, James Wilson, Daniel Weiner, Mehdi Bali, Nathan Menon, Melanie Shone, Bianca Chang and Fallaq Roshan Lall for their assistance in the preparation of this chapter.
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ii Regulation of capital markets in the United Kingdom
In its role as the UK Listing Authority (UKLA), the FCA focuses on the regulation of companies that issue securities traded on financial markets. The international capital markets in the UK are regulated principally by the Financial Services and Markets Act 2000 (FSMA) and by the Listing Rules, Prospectus Rules and Disclosure and Transparency Rules (the LPDT Rules) set out in the FCA’s Handbook.
FSMA and the LPDT Rules implement into UK domestic legislation relevant aspects of the Prospectus Directive, the Market Abuse Directive, the Transparency Directive and the Markets in Financial Instruments Directive (and other EU-wide regulation related to these directives). Where permitted by EU law and regulation, FSMA and the LPDT Rules also include certain ‘super equivalent’ standards that go beyond the EU-wide directive minimum standards (e.g., the additional eligibility for listing requirements (LR 6), Listing Principles (LR 7), sponsor regime (LR 8) and continuing obligations (LR 9 to 12) that apply to applicants for admission to the premium (rather than standard) segment of the Official List and to premium listed companies on an ongoing basis).
II THE YEAR IN REVIEW
i Developments affecting equity offerings
The UK IPO markets in 2015It was always going to be a challenge to maintain the pace set in 2014, which saw some of the strongest IPO activity for nearly a decade. While falling oil prices in the second half of 2014 caused the FTSE 100 to fall, it grew steadily at the end of 2014 and the start of 2015 to hit an all-time high in April 2015. However, a number of geopolitical factors have contributed to a softer market in 2015 including further talk of a ‘Grexit’ and a slowdown in China stoking fears of a global recession. Home-grown concerns failed to materialise though when a surprise general election result lifted the City.
The number of deals in H1 2015 was certainly down in comparison to 2014 but the Main Market saw nine IPOs with the AIM Market not performing as strongly with only 13 admissions, compared to 39 in 2014. Encouragingly, over half of the transactions seen were by overseas issuers with a number of floats still PE-backed.
Apart from South32 Ltd on the Main Market, it was no surprise that natural resources companies did not feature. Banking, health care, retail and leisure all featured and the first UK law firm, Gateley (Holdings) plc, also made its debut on AIM.
Main MarketNine floats on the Main Market raised £3 billion in the first half of 2015, compared to 32 floats raising £9.5 billion for the same period in 2014. Transactions of note were BCA Marketplace plc raising £1.2 billion, challenger bank Shawbrook Group plc’s IPO and the largest ever technology IPO in London by Sophos Group plc at a valuation of over £1 billion. Other than South32, most of the companies performed positively post-IPO.
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AIM MarketAlthough IPO volume on AIM was significantly down compared to 2014, the 13 admissions that did occur raised £351 million and the majority of those stocks performed well in the aftermarket, especially Motif Bio plc, which reached 244 per cent above offer price. Elegant Hotels Group plc bucked the trend and successfully marketed its luxury Barbados hotel chain throughout the general election period to raise £63 million. The largest float was by Applegreen plc, from Ireland, which raised £75 million for its petrol stations business.
ProspectsDespite the various issues impacting on the London markets, sentiment remains positive with a number of IPOs expected to launch in Q4.
Takeover Code: timetable amendments Following public consultation in 2014, the Code Committee of the UK Takeover Panel (the Panel) introduced two sets of changes to the Takeover Code effective January 2015. The first took effect on 1 January 2015 and made a number of amendments aimed at providing greater clarity, certainty and transparency in the operation of the Code. The principal amendments include:a clarification by potential competing offerors of their position:
• the deadline for a potential competing offeror to clarify its position is now a firm date (i.e., day 53 following the publication of the first offeror’s initial offer document), as opposed to the previously flexible date set by the Panel on a case-by-case basis;
• where the first offeror’s offer is being implemented by means of a scheme of arrangement, the Panel will continue to set the date by which the potential competing offeror must clarify its position on a case-by-case basis, but the date set by the Panel must now be no later than the seventh day prior to the date of the shareholder meetings. The Panel will continue to be able to permit a potential competing offeror to clarify its position after the date of the shareholder meetings in appropriate cases (e.g., where the first offeror establishes a short timetable, giving the potential competing offeror an unrealistic time frame to consider its position);
• where the Panel has consented to an extension to day 60, it will also normally grant an extension to, or re-set, day 46. This codifies existing practice, set out in Practice Statement 8, which was not previously widely known;
b acquisition of interests in shares by a former potential competing offeror after day 53: where a former potential competing offeror has made a ‘no intention to bid’ statement and it then acquires interests in shares in the offeree after day 53, it no longer has the right to set aside the ‘no intention to bid’ statement with the agreement of the offeree board;
c dispensation from having to make a possible offer announcement: a potential offeror which has satisfied the Panel that it has ceased active consideration of an offer and has been granted a dispensation from having to make a ‘possible offer’ announcement is now restricted:
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• for a period of six months from date on which the dispensation is granted from announcing an offer or possible offer for the offeree, acquiring any interest in shares in the offeree which would trigger a Rule 9 mandatory offer, acquiring any interest or procuring irrevocable commitments in respect of shares in the offeree which would in aggregate carry 30 per cent or more of the voting rights in the offeree, making any statement which raises or confirms the possibility that an offer may be made for the offeree, or taking any steps in connection with a possible offer for the offeree where knowledge of the possible offer might be extended outside those who need to know in the potential offeror and its immediate advisers; and
• for a period of three months from the date on which the dispensation is granted from actively considering making an offer, making an approach to the board of the offeree or acquiring any interests in offeree shares. These restrictions also apply to the potential offeror’s concert parties;
d resolution of competitive bid situations: where a competitive situation continues to exist on day 46 of the second offeror’s timetable and the parties have not agreed on a procedure to resolve the situation, the default auction procedure that kicks in will now involve a maximum of five rounds of bidding taking place over the five business days immediately following Day 46. Previously, the Code did not provide for a specific number of bidding rounds, but that the Panel could impose a final time limit, or ‘guillotine’, for announcing revisions to competing offers. The offerors and their concert parties are also prohibited from dealing in the offeree’s securities and from procuring irrevocable commitments or letters of intent during the auction procedure.
Post-offer undertakings and intention statementsThe second set of changes introduced a new framework relating to post-offer undertakings and intention statements and took effect on 12 January 2015. In 2014, US pharmaceutical major, Pfizer Inc made certain voluntary commitments to maintain scientific research and development activities in the UK for a five-year period, in an attempt to reassure shareholders and the UK government in connection with its mooted £69 billion offer for AstraZeneca. Pfizer claimed that these promises were binding but, under the Code as it then stood, they would have been binding for 12 months only (or less if there was a material change in circumstances). Although the bid did not ultimately succeed, the voluntary commitments made by Pfizer highlighted various issues relating to post-offer statements of commitment or intention and a new framework has therefore been put in place to address these issues.
The new framework distinguishes between a post-offer undertaking and an intention statement. The key features of the new framework are:a a post-offer undertaking is a statement relating to any particular course of action
that a party to an offer commits to take, or not take, after the end of the offer period. It must specify the period of time for which it is made and any qualifications or conditions to the undertaking. A party will only be excused compliance with its post-offer undertaking if a specified qualification or condition is met. The Panel must be consulted in advance before a post-offer undertaking is given, and will require periodic written reports to be submitted by the giver of the undertaking
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in order to enhance the Panel’s ability to monitor compliance. The Panel can also require a party to appoint an independent supervisor to monitor compliance with the post-offer undertaking;
b a post-offer intention statement is a statement relating to any particular course of action that a party to an offer intends to take, or not take, after the end of the offer period. While the party making the statement is not committed to comply with it, the statement must nevertheless be an accurate statement of that party’s intention at the time it is made and must be made on reasonable grounds;
c the rules apply to post-offer undertakings and intention statements made by an offeror as well as an offeree; and
d the Panel acknowledges that the mandate of a party’s advisers is likely to come to an end once the offer has ended and, accordingly, advisers are not expected to have an ongoing obligation to ensure compliance with a post-offer undertaking after the end of the offer period.
Given that there is no specific requirement to give post-offer undertakings under the Code, it is not anticipated that many parties will voluntarily take on such a commitment although there are situations, like the Pfizer offer for AstraZeneca, where it may be beneficial for the offeror to give a post-offer undertaking to demonstrate to offeree shareholders and other stakeholders its commitment to a certain course of action regarding the future of the offeree in order to garner support for the offer.
Treatment of dividends; voting rights; concert partiesThe Panel has also consulted on a number of proposed amendments to the Code, including the following:a the treatment of dividends paid by an offeree company to its shareholders:
amendments have been proposed to:• allow the offeror to reserve the right to reduce the offer consideration by the
amount of a dividend paid by the offeree;• make it clear that an offeror which has made a ‘no increase statement’ must
reduce the value of its offer by the amount of any subsequent dividend paid by the offeree, unless a specific reservation was included in the ‘no increase statement’; and
• clarify how dividends are to be treated in calculating the minimum offer value which may be established by the acquisition of interests in offeree shares by an offeror or its concert parties.
b voting rights: the current definition of ‘voting rights’ refers to rights that are ‘currently exercisable’ at a general meeting. Amendments have been proposed to clarify that shares which are subject to a suspension or restriction on the exercise of voting rights would nonetheless be treated as carrying voting rights. The definition is particularly relevant in the context of Rule 9 where the acquisition of 30 per cent or more of the voting rights in a company triggers a mandatory offer obligation;
c three new presumptions in the definition of ‘acting in concert’: the Code currently lists six categories of persons who will generally be presumed to be acting in concert with each other. In practice, in addition to these six categories,
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the Panel also generally presumes three other categories of persons to be acting in concert with each other (broadly, a person and his or her close relatives and their related trusts; the close relatives of a Code company’s founder and their close relatives and related trusts; and shareholders of a private company who sell their shares in consideration for shares in a company to which the Code applies or who, following the re-registration of the company as a public company, become shareholders in a Code company). It is proposed that these categories be added to the existing list of six in order to codify existing practice.
The consultation periods have now closed, and amendments to the Code are awaited.
Listing RulesThe FCA has implemented numerous changes to the Listing Rules in 2015. While the amendments cover a range of areas, the primary changes relate to:a sponsors: while the joint sponsor regime is being retained, changes have been
made in order to refine the operation of the regime. Sponsors are now also expected to have effective systems and controls in place for compliance with the sponsor competency requirements set out in Listing Rule 8; and
b the prior approval of circulars: the scope of circulars that require prior approval by the FCA has been narrowed from 1 April 2015 to circulars relating to a class 1 transaction, a related-party transaction, a share buyback, reconstruction or refinancing where a working capital statement is required, a cancellation of a premium listing and a transfer of listing which requires shareholder approval.
AIM: electronic settlement of Regulation S securitiesUnder Rule 36 of the AIM Rules for Companies (the AIM Rules), securities that are admitted to AIM must be eligible for electronic settlement. The London Stock Exchange could grant derogations from Rule 36 in exceptional circumstances and usually did so for Regulation S, Category 3 securities (i.e., equity securities issued by US issuers and other issuers that do not qualify as ‘foreign private issuers’ under US securities laws). Due to restrictions under US Securities laws, Regulation S, Category 3 securities were historically not eligible for electronic settlement in the CREST system operated by Euroclear UK and Ireland (EUI) and derogations from electronic settlement were granted in order that such securities could be admitted to AIM. The securities would be issued in certificated form and settled outside of a central securities depository, usually resulting in longer settlement periods (typically T+10) which could have an adverse impact on the liquidity and trading prices of the securities.
The EU Regulation on Central Securities Depositories Regulation (the CSD Regulation), which came into force in September 2014, to harmonise the settlement of financial instruments and the authorisation and supervision of EU central securities depositories, in effect requires that all transactions in transferable securities that take place on a trading venue (such as AIM) be settled electronically. As a result, EUI has now developed an electronic settlement service to allow Regulation S, Category 3 securities to be settled electronically through CREST subject to the transfer restrictions in connection with offers or sales in reliance on Rule 144A under the US Securities Act of 1933, as amended.
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With effect from 1 September 2015, all existing Regulation S, Category 3 securities must be eligible for electronic settlement and the derogation from Rule 36 in relation to any new issue of Regulation S, Category 3 securities is no longer available. Instead, new AIM applicants that propose to issue Regulation S, Category 3 securities must now request a derogation from Rule 32 of the AIM Rules (Transferability of shares) prior to admission.
The significantly shorter settlement period (T+2) resulting from this move to electronic settlement should result in a reduction in the operational risks referred to above.
Financial transactions taxVery limited progress has been made on the development of the European Commission’s proposed financial transactions tax (FTT) this year. As originally proposed, the FTT would generally apply to transactions in securities (other than their issuance) where at least one of the parties is a financial institution established in a participating Member State. It would also apply where parties are dealing in securities issued by an entity established within the FTT zone, regardless of where those parties are themselves established.
No formal announcements have been made on the FTT since 30 January 2015, when 10 of the 11 participating Member States reiterated their commitment to the FTT – still with an anticipated implementation date of 1 January 2016. No technical details accompanied that announcement, and that implementation date seems fanciful. It is expected that any implementation would be progressive, with the initial focus being on shares and certain derivatives. The original proposal would have made a financial institution liable for the FTT simply by transacting with a counterparty that is established in a participating jurisdiction, and it is to be hoped that this controversial feature will not appear in the revised draft.
The UK government remains vociferously opposed to the proposed FTT. Its legal challenge against the legality of the tax was rejected by the European Court of Justice in April 2014, on the grounds that it was premature. It is widely anticipated that the UK government will launch another legal challenge on the substance of the FTT once it has been finalised, unless its territorial scope is significantly watered down in the meantime.
ii Developments affecting debt offerings
The UK debt markets in 2015Yields on government and investment-grade corporate bonds remain at near record lows, reflecting a continued low interest rate environment, and the ongoing impact of ECB and US Federal Reserve quantitative easing measures. In many respects, the position for debt markets in the UK today does not look significantly different from last year, but there is increasing press commentary about the risk of a bubble in the bond markets, and the potential for a market correction especially with the ongoing crisis in the Chinese stock markets and the end of the US Federal Reserve’s low interest rate policy. The shift to a more US-style market, where borrowers regularly utilise non-bank sources of liquidity, such as public bond markets, credit funds and private placements, is likely to be a permanent feature of European and specifically of the UK debt and capital markets in coming years.
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Retail bondsRetail bonds in the UK have grown in popularity over the past few years. Due to their small denomination, retail bonds target individuals rather than institutional investors and can be denominated in units as small as £1. Since the launch in 2010 of the London Stock Exchange’s (LSE) Order Book for Retail Bonds (ORB), their popularity increased consistently with individuals perhaps due to poor return on cash savings. As a result, the retail segment in the UK debt market has significantly increased since then. Between September 2014 and September 2015, the market has seen six corporate bond issuances for an amount of £482 million.2 Retail bonds are listed and can be bought and sold on the secondary market via trading on the ORB. Securities listed for trading on the ORB are admitted to the EU-regulated Main Market of the LSE. Obtaining listing involves: a admission to the Official List of the UKLA; and b admission to trading on the main market of the LSE.
This is the same two-stage process undergone by any security wishing to trade on the main market of the LSE. Retail bonds must comply with the minimum disclosure requirements for the retail regime under the Prospectus Directive. This requires: a a prospectus to be approved before the bonds are offered or listed;b the bonds to be set up for settlement in the CREST system; and c the bonds to be supported by a committed market maker willing to provide
electronic two-way prices throughout the day.
As Article 5.1 of the Prospectus Directive requires prospectuses aimed to retail investors to be easily analysable and comprehensible, the FCA published in November 2014 a technical note where it identified an indicative but non-exhaustive number of key factors to assist issuers.3
One key issue for retail bonds is in respect of insolvency. The administration of Phones4U in 2014 is a prime example of how retail debt can easily become distressed. In this example, the administrators for Phones4U made it clear to investors that there was no scope for a deal by which investors holding £430 million of retail bonds for Phones4U could swap their debt for shares in the business. Such difficulties in obtaining a debt for equity swap may lead to unwillingness among retail investors to invest in retail bonds especially when such issuances involve a relative lack of sophistication from the investor.
Contingent convertible bondsContingent convertible bonds (CoCo bonds) have seen a recent rise to prominence in the hybrid bond market. CoCo bonds take multiple forms, but all are highly complex
2 In the same time period, the UK Treasury issued three series of bonds for an amount of £47 billion.
3 Issuers must pay particular attention to the language of the prospectus and its structure. Their prospectus has to include explanations regarding the bond features and the protection of the bondholders as well as an FAQ (see www.fca.org.uk/static/documents/ukla/knowledge-base/tn-632-1-final.pdf ).
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instruments presenting investment risks that are, in the FCA’s view, hard to evaluate, model and price. CoCo bonds are intended to behave like bonds when times are good, yet absorb losses, equity-like, in a crisis. At a given trigger point, when equity levels are so low that bankruptcy threatens, CoCo bonds either lose some or all of their value (write-off mechanism), or get exchanged for shares. This market segment size has been consistently doubling year after year since it kicked off in 2009.4
UK Banks have duly stepped up recent issuances from negligible amounts in 2010 to US$18 billion so far this year – a volume similar to 2014 – mostly because the Capital Requirements Directive (CRD IV) and Capital Requirement Regulation (CRR) package of measures have increased the required level of regulatory capital and ts composition. Indeed, CRD IV strengthens the criteria to determine what can be used as Tier 1 capital, perpetual deeply subordinated notes no longer being the grail to satisfy regulatory capital requirements.
On 1 October 2014, temporary rules restricting the distribution of CoCo bonds to retail investors were introduced without prior consultation.5 This was the firm time the FCA has used its newly acquired temporary product intervention powers. The rules were designed with the objective of protecting retail investors against the illusion that CoCo bonds were household names offering a generous coupon. Following a consultation, the rules (with some slight changes to scope summarised below) became permanent on 1 October 2015, when the temporary rules expired.6 These rules prevent firms from selling CoCos to a retail investor in the EEA, unless a relevant exemption applies. Exemptions are available (subject to meeting the relevant requirements) for, for example, high net worth or sophisticated investors, or where investments in CoCo bonds are made indirectly through regulated collective investment schemes (UCITs). In the FCA’s view, firms located outside the UK but promoting or selling into the UK on a services basis will also be caught by the rules. The permanent rules will make it explicit that the promotion (or approval of promotions) of CoCo bonds to retail investors is also similarly prohibited, but will remove the temporary rule restriction on intermediaries giving effect to transactions in CoCos by retail investors.
High-yield bondsAfter the record-breaking year of 2013, the high-yield European bonds market seems to have matured. As of August 2015,7 its size is around €50 billion which is very similar to the previous year, although the European emerging high-yield market has significantly dried up over the past year.8 The main issuers are in the retail and telecoms sectors. The ECB quantitative easing policy has made the high-yield market even more attractive for investors in a context of negative interest rate for sovereign European bonds and low return rate for investment grade issuers. A large group of investors have made public to
4 www.ft.com/cms/s/0/1e24aac2-8aad-11e4-8e24-00144feabdc0.html#axzz3imXQJqZ5.5 COBS, 22.1.6 COBS 22.3.7 Search run on Bloomberg Terminal, 23 August 2015.8 www.afme.eu/WorkArea/DownloadAsset.aspx?id=12927.
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the board of the Association for Financial Markets in Europe (AFME) their concerns in respect of disclosure, covenants, call structure and portability issues, the latter being a point of serious discussion between issuers and investors.
The Ukrainian crisis and EU sanctions against Russia will continue to impact this market, as will any ECB interest policy changes or further turbulence in the Chinese stock markets.
CrowdfundingCrowdfunding allows businesses to raise money from the public to fund their projects through the use of online platforms. The business seeking to raise financing will typically make a pitch through a website, seeking to attract investment from as many people as possible. Not all of these internet-based fundraising mechanisms are regulated by the FCA. Donation-based crowdfunding, whereby people donate money to businesses whose activities they wish to support, and pre-payment crowdfunding, in which people give money in return for a product or service, are not regulated by the FCA. However, loan-based crowdfunding and investment-based crowdfunding platforms are both regulated, and present an alternative way of raising finance for some businesses where traditional debt securities markets are unavailable or unattractive. Both loan-based and investment-based crowdfunding sectors have grown substantially in recent years. The FCA is due to undertake a full post-implementation review of the rules on crowdfunding during 2016.
Loan-based crowdfundingAlso known as peer-to-peer (P2P) lending, loan-based crowdfunding is viewed by the FCA as posing less of a risk to investors than investment-based crowdfunding. Consequently, the FCA focuses on ensuring investors are provided with sufficient information (e.g., details of risks and expected returns must be provided) to enable them to make an informed lending decision, rather than attempting to restrict businesses’ access to investment. Such information that is provided to prospective investors must:a be presented in a clear and accessible manner, which is not misleading;b outline the expected returns;c explain how late repayments and defaults are dealt with; andd explain what happens if the P2P firm fails.
P2P lendingIn December 2014, the UK government announced a series of tax measures to promote P2P lending. This forms part of the government’s wider initiative to inject competition into the banking sector, in particular for lending to small businesses. A new relief was introduced with effect from 6 April 2015, allowing individuals lending through P2P platforms to offset for their income tax purposes any losses from bad loans that go bad against other P2P interest received. The government also consulted during the summer of 2015 on proposals to introduce a withholding regime for income tax applicable to all P2P lending platforms with effect from April 2017. That regime would generally be welcomed by UK individual investors because, if P2P platforms withhold UK income tax at 20 per cent from taxable P2P returns, many of those investors will not need to self-assess for tax on those returns.
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Investment-based crowdfundingGiven the significant risks investors face when investing in unlisted securities that are hard to value independently or sell on a secondary market, firms offering such investments on crowdfunding platforms (or using other media) must promote only to certain types of investor (e.g., professional investors and retail investors who are advised).
Where no advice has been provided to a retail client, the firm will need to ensure that the investment is appropriate for the investor; this will be done by enquiring into the consumer’s investment profile and experience, assessing their level of understanding of investment services and warning the client if the product is not suitable for them.
Withholding tax exemption for interest on qualifying private placementsLegislation has been enacted allowing for an exemption for issuers from the requirement to withhold income tax from interest on their qualifying private placements. The UK government expects that this will promote the development of the UK private placement market, thereby unlocking new sources of financing for mid-sized borrowers.
The start date and precise details of this exemption are yet to be finalised. However, the security will need to be issued by a company and not listed on a recognised stock exchange. In addition, it is likely that certain other key conditions will also need to be met, including the following: the issuer must be a trading company, the security must be a market-standard ‘plain vanilla’ debt for an issued amount of between £10 million and £300 million, and the lender must be an unconnected UK-regulated financial institution (or overseas equivalent) resident in a territory with which the UK has a double taxation treaty containing an appropriate non-discrimination article.
FATCAFollowing several years of negotiations and deliberations, the provisions of the US Foreign Account Tax Compliance Act (FATCA) finally took effect on 1 July 2014. So FATCA is now a ‘live’ issue (rather than a risk for the future), and drafting relying on the FATCA ‘grandfathering’ rules is now largely out of date. Consequently, international efforts to conclude intergovernmental agreements with the US (IGAs) have gained momentum, and the number of jurisdictions that have either entered into an IGA or reached agreement in substance on entering into an IGA now exceeds 100. The US–UK IGA has been implemented into UK legislation, and the UK tax authority has recently updated its FATCA guidance.
The approach in bond documentation remains unchanged, in that noteholders are generally required to accept FATCA as their risk. With regard to allocating the FATCA risk in loan facility agreements, there has been a gradual shift in approach towards lenders bearing the risk, in particular with regard to bank lenders. However, where a lender is a fund or special purpose vehicle where FATCA compliance cannot be as readily assumed as for banks, it is still common to adopt a borrower-risk approach. It is expected that the drafting approach adopted on FATCA in standard documents will further evolve as the scope of FATCA becomes clearer and FATCA reporting becomes part of an entity’s routine tax compliance.
Overall, it is generally accepted that FATCA is here to stay, and it is anticipated that jurisdictions other than the US will in time adopt FATCA-style regimes. The UK has already entered into automatic tax exchange information agreements (some reciprocal,
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some not) with its Crown dependencies (Jersey, Guernsey, the Isle of Man and Gibraltar) and certain overseas territories (including Bermuda, the Cayman Islands and the BVI).
Tax treatment of hybrid mismatch arrangementsIn December 2014, the UK government launched a consultation on implementing the OECD’s proposals for rules to prevent multinational groups of companies entering into hybrid mismatch arrangements. These arrangements seek to exploit tax asymmetries between different jurisdictions, for instance because the financial instruments are taxed as debt in one country and as equity in another.
The UK government states that the proposals are aimed at intra-group transactions and should not therefore impact on UK banks issuing hybrid regulatory capital to third-party investors. However, it is aware that the proposals may negatively impact the issue of hybrid regulatory capital that, as a result of regulatory requirements, must be downstreamed from the level of the top holding company to operating subsidiaries. It has therefore requested feedback on two ways that do not put UK banks at a disadvantage compared to non-UK banks in this respect.
Tax treatment of regulatory capital In July 2015, draft regulations were published which are designed to ensure that insurers’ Solvency II instruments that are issued in the form of debt are taxed as debt instruments. These regulations would bring welcome certainty to the tax treatment of these instruments and bring them in line with additional Tier 1 and Tier 2 securities issued by banks. The most significant tax effect of these regulations would be that interest on those instruments is deductible for issuers.
iii Developments affecting derivatives, securitisations and other structured products
2015 has seen market participants coming to terms with the practical implications of the wall of regulation that has developed in the years since the financial crisis. Despite the increased compliance requirements and a trend towards simplification, there has been vigorous activity in many areas of derivatives and structured finance. Looking forward there are various events that are likely to have an impact on the size and share of these markets such as a proposal by the ECB to stimulate the European economy by purchasing asset-backed securities, proposed changes to the Basel framework that would increase the regulatory capital costs associated with banks holding asset-backed securities and the gradual implementation of EMIR.
EMIR developmentsThere has been much activity during 2014 and 2015 at the European level regarding EMIR Level 2 RTS on the clearing obligation, which are yet to be finalised and implemented. Spring 2016 is likely to see the start of mandatory central clearing requirements for certain interest rate swaps, as the European Commission adopted the text of the Delegated Acts on this issue in August 2015. This is expected to be published in the Official Journal some time in Q4 2015. A consultation on clearing requirements for other interest rate derivatives took place during summer 2015, with ESMA’s draft
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RTS on credit derivatives delivered to the European Commission on 1 October 2015. These clearing rules, in conjunction with the rules requiring the posting of initial and variation margin for uncleared OTC derivative contracts (final version expected later in Q4 2015 and anticipated to commence on a phased-in basis from September 2016) and higher regulatory capital charges for uncleared trades, is expected to have a number of consequences, potentially including pushing more derivatives onto exchanges offshore, the simplification of certain products and possibly reducing the overall volume of derivatives traded in Europe. It will also require changes to credit support documentation and what is regarded as acceptable collateral for uncleared OTC derivative trades.
The European Commission has also undertaken a planned review of EMIR, and ESMA published four reports in August 2015 on various aspects of the review, including its response to the European Commission’s consultation on market participants’ experiences of EMIR implementation. One of ESMA’s key recommendations is to amend EMIR to ‘streamline’ (i.e., simplify and, possibly, speed up) the process for determining clearing obligations for various OTC derivatives classes, which it considers to be to rigid, and therefore time-consuming, as currently drafted. ESMA noted that since March 2014 (the first authorisation of a central counterparty, thereby initiating the clearing obligation), four clearing obligation procedures have been launched (for the various OTC derivatives classes), but not one has yet reached the stage of entry into force as RTS. In the coming months, we may also see the Commission taking forward ESMA’s other key proposals, including those regarding frontloading, intra-group transaction exemptions, the possibility of single-sided EMIR transaction reporting and amendments (i.e., narrowing) to the concept of hedging and hedging criteria and how it affects calculations against the clearing threshold for non-financials.
The Capital Requirements Regulation and Risk Retention RequirementsSecuritisation in the Basel frameworkIn December 2014, the Basel Committee on Banking Supervision (BCBS) issued a final standard on revisions to the Basel II securitisation framework, the ‘Basel III securitisation framework’,9 which members of the BCBS are expected to implement by January 2018. The new securitisation framework is materially different from the current framework and is expected to have a significant effect on the behaviour of banks as investors in securitisation. In particular there have been material increases in the regulatory capital charges applied to certain categories of securitisation and reductions to others.
Various initiatives for standardisation of securitisationIn February 2015, the European Commission launched a consultation on high-quality securitisation to which the EBA, the ECB, the BoE and numerous industry participants responded. Internationally, in July 2015, the BCBS and IOSCO published their ‘STC criteria’. The initials stand for simplicity, transparency and comparability. Meanwhile the EBA published its own SST (simple, standard and transparent) securitisation criteria.
9 www.bis.org/bcbs/publ/d303.pdf.
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All of these initiatives are intended to promote a more ‘safe’ form of securitisation with the objective of encouraging growth. It is possible that regulatory benefits will be associated with securitisations which conform to the applicable criteria in due course.10 They have the disadvantage that a one-size-fits-all approach may unfairly penalise certain financial products thereby reducing the access to funding of some otherwise deserving issuers.
Securitisation in Solvency IISolvency II is a regulatory initiative to update the prudential regime for insurance and reinsurance undertakings in the European Union. It has made radical changes to the incentives which drive the investment decisions of insurers in many different asset classes including securitisation. Insurers could potentially be important investors in securitisation and some already are.
In October 201411 rules were implemented (which became applicable law in January 2015) that establish a distinction between two types of securitisation, Type 1 and Type 2,12 for the purposes of the Solvency II prudential regime. Type 1 comprises certain of the most mainstream types of securitisation (e.g., prime residential mortgages, automobile loans, consumer credits) and excludes others such as synthetic securitisation and commercial mortgage backed securitisations which as a result are treated as Type 2. A Type 1 securitisation receives a capital charge which is roughly three-quarters less than a Type 2 securitisation (on an average basis). Nevertheless it may be more attractive still for an insurer to hold underlying loans which are subject to a significantly better capital treatment than an equivalent Type 1 securitisation position comprising the same assets.
The Credit Rating Agency RegulationCredit rating agencies have been regulated in Europe by ESMA since 2009 as a result of the Credit Rating Agency Regulation 1060/2009. The Regulation has always contained provisions that are of relevance to the structured finance industry and there were some important developments in this regard in 2014. Article 8b of the Credit Rating Agency Regulation that was introduced in 2013 by an amending regulation referred to as CRA III requires material public disclosure of information in relation to private securitisation transactions which hitherto need not have been disclosed. The specifics of this obligation are laid out in a regulatory technical standard produced by ESMA that was approved by the European Commission with some changes on 30 September 2014.
On 30 September 2014, the European Commission adopted three regulatory technical standards (RTSs) that were needed to implement the Credit Rating Agency Regulation:
10 According to David Rule, Executive Director Prudential Policy at Bank of England, ‘there is a case for some lowering of capital requirements for STC transactions on the grounds of lower structure risk,’ see www.bankofengland.co.uk/publications/Pages/speeches/2015/824.aspx.
11 Regulation 61/2015.12 For the definition of Type 1 securitisation, see Regulation 35/2015, Article 177.
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a the first elaborates on the disclosure requirements of issuers, originators and sponsors of structured finance instruments (applied from 21 June 2015);
b the second sets out more detail on the reporting requirements applicable to credit rating agencies (CRAs) for the European Rating Platform (i.e., data on all their issued or endorsed credit ratings or rating outlooks) (applied from 26 January 2015); and
c the third sets out reporting requirements for CRAs on fees for the purpose of ongoing supervision by ESMA (the main body of which will apply from 1 January 2017). ESMA guidelines on the periodic information to be submitted to it by CRAs came into effect on 23 August 2015.
During 2015, the Joint Committee of European Supervisory Authorities consulted on guidelines for the use of credit rating by financial intermediaries. Final guidelines on this are anticipated by the end of 2015.
iv Relevant tax law
Aside from the specific tax-related developments discussed above, some more general tax events during 2015 are worth mentioning. The glare of publicity in the media on tax avoidance activity has continued unabated, for instance, and the UK government has stated that it remains fully committed towards implementation of the OECD’s 15-point action plan to counter base erosion and profit shifting.
An early outcome from the OECD project has been the development of a new global standard for automatic and multilateral exchange of financial information between tax authorities. The UK government has committed to its early adoption, and in March 2015 it published regulations which effectively unify, as far as possible, the due diligence and reporting requirements and penalties in relation to the various automatic exchange of information procedures for improving international tax compliance (including FATCA).
Although the UK government continues to pursue an anti-avoidance agenda, it recognises the need to balance this with ensuring that the UK remains a competitive environment for business and investment. For example, the UK corporation tax rate continues to be lowered: soon after the rate was reduced to 20 per cent in April 2015 (the joint lowest rate in the G20), the government announced a further reduction to 19 per cent in 2017 and to 18 per cent in 2020. If implemented, this will result in an impressive 5 per cent reduction in the UK corporation tax rate over the space of six years.
More directly in the debt capital markets sphere, the UK government is continuing its review of the taxation of loan relationships and derivative contracts, with the aim of redesigning this regime to be simpler, clearer and more resistant to tax avoidance. The latest series of measures from that review are currently being implemented. The tax treatment of loan relationships and derivative contracts is being more closely aligned to their accounting treatment, although still subject to certain tax overrides. A specific anti-avoidance rule for the regime is being introduced, counteracting tax advantages from relevant avoidance arrangements. A new corporate rescue exemption from a corporation tax charge will be available for a debtor upon its release from a debt, designed to give failing companies a chance to recover.
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v Role of exchanges and rating agencies
Rating agenciesFitch’s decision in 2012 to no longer provide rating agency confirmations (RACs)13 that are usually required by the special servicer replacement clause continues to be litigated in court. Last year, in Titan Europe 2007-1 (NHP) v. US Bank [2014] EWHC 1189 (Ch) it was decided that where a rating agency refuses to provide a confirmation and the servicing agreement includes a provision requiring such a document, the provision should be read and construed as though such confirmation was not required and the controlling class could proceed with the replacement of the special servicer.
In Deco 15-Pan Europe 6 Ltd & Cheyne Capital (Management) UK v. Deutsche Trustee Co Ltd [2015] EWHC 2282 (Ch) Justice Arnold refined the Titan Europe 2007-1 (NHP) doctrine. The servicing agreement included different provisions to the earlier case. In Titan Europe 2007-1 (NHP), the servicing agreement had a provision that required a confirmation be obtained from the rating agencies and, if a rating agency refused to issue such a confirmation, the condition was deemed to be satisfied with respect to the declining rating agency. In Deco 15-Pan Europe 6 Ltd, the provision was drafted differently. If any of the other rating agencies but Moody’s declined to provide an RAC, then the condition was still pending and the controlling class could proceed with the replacement of the special servicer only if each class of noteholders had approved the special servicer successor by extraordinary resolution. Cheyne Capital (Management) UK, which acted on behalf of the controlling class, could not obtain a confirmation from Fitch and tried vainly to rely on the Titan Europe 2007-1 (NHP) case. Indeed, Justice Arnold pointed out the drafting differences.
As a result, regarding RACs, one must carefully read the provisions to determine what is provided for in case of a refusal from a rating agency to issue a confirmation. If the provision is silent, one can consider that such a requirement is satisfied.
vi Marketing of investment funds in the EU
AIFMDThe Alternative Investment Fund Managers Directive (Directive 2011/61/EU or AIFMD) applies on a pan-European Union basis and was implemented into UK law by the Alternative Investment Fund Managers Regulations 2013 (SI 2013/1773). The AIFMD regulates alternative investment fund managers (AIFMs) that manage alternative investment funds (AIFs) and the marketing of EU and non-EU domiciled AIFs into all EU Member States. An AIF covers both open-ended and closed-ended funds across the asset spectrum but excludes funds that fall within the EU ‘UCITS’ regime (governed by the Undertakings for Collective Investment in Transferable Securities Directive 2009/65/EC and associated regulations).
13 An RAC states the intention of the rating agency not to downgrade the rating of an issuer following the replacement of a servicer or a special servicer.
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The AIF marketing passport regimeEU-domiciled AIFs managed by EU-domiciled fully regulated AIFMs automatically benefit from an EU-wide marketing passport, while AIFs that are not domiciled in the EU will only benefit from a passport when positive advice to that effect is given by ESMA and approved by the European Commission, Parliament and Council and implemented by EU legislation.
ESMA issued advice on passporting of non-EU AIFs under Articles 32 and 42 of AIFMD on 30 July 2015 (ESMA/2015/1236, the Advice) in relation to Guernsey, Hong Kong, Jersey, Switzerland, Singapore and the United States. ESMA provided a positive opinion on Jersey, Guernsey and Switzerland while a decision on the remaining jurisdictions has been deferred ‘due to concerns related to competition, regulatory issues and a lack of sufficient evidence to properly assess the relevant criteria’.
The European Commission should prepare EU legislation to implement the Advice in relation to Guernsey, Jersey and Switzerland by the end of October 2015. Once that has occurred there will no doubt be a transitional period so it may take until mid-2016 for these changes to be effected. However, ESMA noted with the Advice that ‘the EU institutions may wish to consider waiting until ESMA has delivered positive advice on a sufficient number of non-EU countries before introducing the passport, in order to avoid any adverse market impact that a decision to extend the passport to only a few non-EU countries might have.’ Therefore, implementation of the Advice in respect of these non-EU jurisdictions may be delayed.
Regarding the United States, ESMA takes the view (at paragraphs 66 and 67 of the Advice) that the differences in treatment of EU AIFs in the United States when compared to permitting US-domiciled AIFs to benefit from an EU-wide passport are such that the implementation of the passport for United States AIFs should be delayed until ‘better conditions of market access’ are granted to EU AIFs under United States regulation.
Private placement under AIFMDFollowing on from the previous section, non-EU AIFMs and EU AIFMs are currently required to register themselves and their non-EU AIFs separately under the national private placement regime of each EU Member State to be able to actively market non-EU AIFs in that Member State. This is problematic for non-EU AIFMs because the national authorities of each Member State may adopt stricter marketing requirements or ‘gold plate’ AIFMD, which means that non-EU AIFMs are required to navigate and understand regulatory arbitrage within the EU. Croatia, Latvia, Italy and Poland, for example, do not permit marketing of non-EU AIFs by EU regulated AIFMs.
Until such time as the EU permits non-EU AIFMs to market AIFs to EU professional investors on a passported basis, non-EU regulated AIFMs and EU AIFMs managing non-EU AIFs will have to assess in advance whether it will be practically feasible to register for private placement in each target EU Member State. There are divergences in approach between the competent authorities when operating the current passporting regime including as to interpretation of AIFMD, procedure to register for private placement, application and transparency of registration and ongoing fees and the time it takes from application for registration to get to market.
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ESMA’s Opinion to the European Parliament, Council and Commission and responses to the call for evidence on the functioning of the AIFMD EU passport and of the National Private Placement Regimes (2015/ESMA/1235 of 30 July 2015, the Opinion) cites a number of interesting statistics from 22 July 2013 to 31 March 2015 related to AIFMD:a 7,868 AIFs were notified for passporting by EU AIFMs with 5,027 outbound
from the UK, which reflects the dominant position of the UK as an EU asset manager jurisdiction (paragraph 17 of the Opinion); and
b 1,777 non-EU AIFMs marketed AIFs in the EU of which the UK accounted for 1,013 while 4,356 AIFs were marketed by those non-EU AIFs with 2,657 AIFs registered in the UK (paragraphs 36 and 37 of the Opinion).
Some managers have taken the view that until the AIFM and the relevant AIF are registered for private placement, subscriptions from EU investors need to be blocked. EU institutional investors that include AIFs in their investment strategy may find that they have less or no access to the products to which they have historically allocated until the relevant AIFM complies with AIFMD or launches an EU AIF managed by an EU-regulated AIFM.
Managers wishing to register for private placement are required to comply with, inter alia, disclosure and transparency requirements in relation to the AIFs that they wish to market, which may require changes to the private placement memoranda and subscription documents of the AIFs, additions to the financial statements of the AIFs (including manager remuneration disclosure) and ongoing investor and regulatory reporting.
The issue of NPPR fees was raised by a number of respondents to ESMA. One respondent indicated that in their view the disparity is great with costs under the UK NPPR being minimal while German NPPR are estimated at €60,000 with an average NPPR registration costing between €5,000 and €10,000 (paragraph 193 of the Opinion).
A trade association responding to ESMA indicated that its members take the view that the following countries have significantly gold-plated AIFMD Article 36 or 42 requirements or indeed do not permit filings at all (paragraph 229 of the Opinion): Germany, Austria, France, Portugal, Greece, Italy and Spain.
France and Italy effectively do not have NPPRs so this is a barrier to entry for all non-EU AIFs or EU AIFs managed by non-EU AIFMs.
Exchange-traded funds and structured productsThe definition of an ‘AIF’ under the AIFMD covers a broad swathe of products that previously would not have been considered by the asset management industry to be ‘funds’. The interpretation of the AIF definition is being left to national regulators with few regulators providing guidance, the FCA being a notable exception.
The FCA has indicated that an exchange traded fund (ETF) that replicates movements in an index by holding some or all of the constituents or entering into
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derivatives to track the performance is likely to be an AIF unless it is a UCITS.14 In practice, many ETFs are structured as UCITS and so are not AIFs. Even if an ETF is not a UCITS, some ETFs are structured in a way that takes then outside the definition of an AIF. The FCA’s interpretation will only affect those ETF product providers that previously did not hold fund management permissions, but must now do so as they are managing an AIF.
Securitisation vehicles are not necessarily caught by AIFMD, however, an analysis will need to be carried out to determine whether the characteristics of the arrangements for each securitisation comply with the restrictive meaning of ‘securitisation’ in Regulation 24/2009 of the European Central Bank.
Private equity funds and asset strippingThe AIFMD prohibits private equity AIFMs that take control of non-listed EU companies and issuers within two years of acquisition to, for example, engage in a distribution, capital reduction, redemption or acquisition by the company of its own shares if as a result of that action the net assets would become lower than the amount of the capital plus undistributable reserves of the company or if a distribution would exceed profits as of the end of the previous financial year (plus profits brought forward and drawn reserves and minus losses brought forward and additions to undistributable reserves). This will affect the mechanism and timing of future portfolio company exits.
In addition to these requirements, the AIFM will also have to report to its home state regulator the acquisition and disposal of portfolio company interests that go above or fall below certain thresholds (starting at 10 per cent).
The upshot is that private equity managers will need to structure M&A transactions and exits carefully to ensure that they do not fall foul of the asset-stripping restrictions.
Impact on the asset management industryThe consequences of new regulation may include:a larger asset managers without an EU-regulated presence taking a strategic
long-term view to form an EU fully regulated AIFM. The EU AIFM could then manage EU-domiciled funds that would benefit from the AIFMD marketing passport given that the ESMA Advice currently extends to Jersey, Guernsey and Switzerland only. The non-EU parent will need to ensure that it is not nevertheless viewed as the AIFM under the AIFMD ‘letter box’ rules and as a consequence of having an EU-regulated subsidiary will need to apply AIFMD remuneration rules to the wider group;
b non-EU regulated managers may take up ‘AIFM hosting’ services offered by some EU AIFM platforms. Aside from eating into their profits, these arrangements have not been tested yet under AIFMD ‘letter box’ rules which, given the disparity in approach to other AIFMD key issues among competent authorities, may lead to unintended liability for non-EU managers using these services;
14 Question 2.45 at 16.1 of its Perimeter Guidance Manual.
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c the amendment or termination of distribution arrangements for managers caught by the AIFMD because the manager or AIFM remains responsible to the local EU regulators for private placement regime registration and compliance;
d ongoing monitoring of the interpretation of material AIFMD concepts such as what ‘marketing’, ‘reverse solicitation’, ‘AIF’ and ‘material change’ mean (paragraph 2.2 of the Opinion). The ESMA Opinion highlights that competent authorities are taking a diverging approach to a number of these issues when dealing with passported AIFs by EU AIFMs so despite the AIFMD being intended as a harmonising measure across the EU, national differences still remain;
e restrictions on shadow banking and lending by AIFs that may lead to those borrowers being unable to secure lending or to refinance if mainstream lenders are unwilling to lend on similar commercial terms; and
f greater scrutiny of and possible restrictions on rehypothecation by prime brokers that may have an adverse impact on overall market liquidity.
vii Impact of EU sanctions on capital markets in response to the Ukraine crisis
Summary of sanctions In March, July and September 2014, in response to the crisis in Ukraine, the EU (along with the US) imposed sanctions targeting individuals and companies in financial, oil and military sectors of the Russian economy.
Of most significance for financial institutions were the sanctions directed against the Russian financial sector targeting the debt and equity raising capabilities of the sanctioned entities imposed on 31 July by Council Regulation No. 833/2014 (the July Regulation) as further amended and expanded by Council Regulation No. 960/2014 published on 12 September (the September Regulation and together with the July Regulation, the Regulations).
In particular, Article 5 of the July Regulation prohibited, directly or indirectly, the purchase, sale, the provision or brokering services or assistance in the issuance of transferable securities and money-market instruments with a maturity exceeding 90 days, issued after 1 August 2014 by Sberbank, VTB Bank, Gazprombank, Vnesheconombank (VEB) and Rosselkhozbank (the July Sanctioned Entities), non-EU entities if at least 50 per cent owned by the July Sanctioned Entities and all entities acting on behalf or at the direction of such July Sanctioned Entities.
Further restrictions were placed on the July Sanctioned Entities by the September Regulation as the 90-day threshold imposed by the July Regulation was reduced to 30 days for issuances after 12 September 2014. In addition, the September Regulation extended the sanctions to OPK Oboronprom, United Aircraft Corporation, Uralvagonzavod, Rosneft, Transneft and Gazpromneft (the September Sanctioned Entities and together with the July Sanctioned Entities, the Sanctioned Entities) non-EU entities if at least 50 per cent owned by the September Sanctioned Entities and all entities acting on behalf or at the direction of such September Sanctioned Entities.
Finally, a prohibition was implemented on directly or indirectly making loans with a maturity exceeding 30 days to any of the above-listed entities after 12 September 2014, except for certain non-prohibited imports or exports and non-financial services between the EU and Russia, or in certain emergency funding for solvency and liquidity purposes.
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The September Regulation has also clarified that financial services, such as deposit services, payment services, insurance services, loans from the institutions referred to above, and derivatives used for hedging purposes in the energy market, are not covered by the Regulations.
MonitoringThe unprecedented nature of the sanctions has meant that financial institutions have had to pay closer attention not only to the sanctions list published by HM Treasury but have had to ensure that staff are aware of transactions that may fall foul of the Regulations. This is because ‘new debt’ and ‘new equity’ are not defined and, bearing in mind the stated intent of the sanctions, arguably any amendment of grandfathered financial instruments or issuance of further equity instruments fungible with grandfathered equity that extend the financing provided to the Sanctioned Entities may be prohibited. Furthermore, as the Regulations prohibit certain activities that are not based on the identity of any party means that these will not be picked up by standard KYC or compliance with sanctions lists.
However, each proposed transaction needs to be considered on its own facts as not all interaction with the Sanctioned Entities is prohibited. Even conservative financial institutions may not want to sever all ties with the Sanctioned Entities if there are strong established relationships and the proposed transactions are not subject to sanctions (e.g., where a Sanctioned Entity only acts in an arranger capacity on a transaction providing financing solely to a non-sanctioned entity and for a purpose that is not otherwise caught by the Regulations).
Covenants Given the broad nature of the sanctions and also the potential difficulties in ascertaining ultimately beneficial ownership and control in complex financial transactions, it has become increasing common for financial institutions to seek relevant representations and covenants in debt and equity transactions to provide additional comfort that EU sanctions are being and will be complied with. These may not ultimately prevent an institution from being in breach of the Regulations, but may be regarded as a mitigating factor in any enforcement action.
III OUTLOOK AND CONCLUSIONS
i Remuneration at banks and other financial institutions (CRD IV)
CRD IV comprises the Capital Requirements Directive and the Capital Requirements Regulation. The requirements of CRD IV came into effect on 1 January 2014. CRD IV includes restrictions on bonus payments by credit institutions and investment firms. The remuneration requirements set out in CRD IV apply to all credit institutions (including banks) and investment firms in the EU and non-EU subsidiaries of such entities as well as EU subsidiaries of financial institutions headquartered outside the EU. The UK’s attempt to annul the bonus cap contained within CRD IV, alleging that it breached EU law, was unsuccessful following a hearing in the European Court of Justice and the legal action was ultimately withdrawn by the Chancellor George Osborne in November 2014.
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The UK transposed the remuneration requirements of CRD IV in the ‘New’ Remuneration Code, implemented in December 2013. However, in July 2014, the FCA and PRA consulted on strengthening the remuneration requirements applicable to the banking sector, following recommendations made by the Parliamentary Commission on Banking Standards. As a result, four new Remuneration Codes within the FCA Handbook (applicable to IFPRU and BIPRU investment firms, alternative investment managers and dual-regulated firms) and a new Remuneration Part of the PRA Rulebook applicable to banks and building societies (together, the Revised Codes) were introduced and came into effect on 1 July 2015. For banks, building societies and PRA-designated investment firms, the Revised Codes also extend the deferral periods for certain senior managers. These new provisions apply to variable remuneration awarded for performance periods beginning on or after 1 January 2016.
The EBA closed a consultation on changes to its guidelines on remuneration under CRD IV in June 2015. Final guidelines are due to be implemented by the end of 2015. Prior to the consultation, the EBA sought a legal opinion from the European Commission on the wholesale disapplication of certain remuneration requirements of CRD IV under the concept of proportionality. The FCA and PRA’s interpretation of the relevant CRD IV provisions is that the rules on retained shares, deferral and clawback normally need not be applied to firms falling within ‘Proportionality Level Three’ (i.e., firms within the lowest bracket according to their total assets). For individuals earning below £500,000 and whose bonus is no more than 33 per cent of total remuneration (regardless of the size of financial institution), in addition to the above rules, those on guaranteed variable remuneration also need not apply.
However, the legal opinion from the Commission confirmed that such practice was not justified or permitted by the text of CRD IV, and this position is reflected in the draft guidelines. If the guidelines are adopted by the EBA in their current form, the concept of ‘proportionality’ as hitherto interpreted by the FCA and PRA is likely to require substantial revision with the result that financial institutions currently benefiting from the application of the proportionality principle may be required to comply with the provisions of the Revised Code in full.
ii Building the European Capital Markets Union (CMU)
2015 has seen continued EU efforts to create a functioning CMU by 2019, through which it is intended that the cross-border investment and access to capital markets by businesses will be improved. Unlike the Banking Union, which applies to the eurozone, the CMU project will involve all EU Member States. A Green Paper consultation was conducted between February and May 2015, the results of which will form an Action Plan (due Q3 2015), which will set out the overall vision, policy direction and timeline for the follow-up work on CMU and its economic rationale.
While much detail remains to be decided, a key short-term focus is on improving the effectiveness and reducing the administrative burden of the Prospectus Directive for SMEs and introducing a standardised EU framework for securitisation. Consultations on these topics were held at the same time and the results are awaited.
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iii The prospectus directive
In February 2015, the Commission launched a consultation on the Prospectus Directive with a view to making it easier for companies (including SMEs) to raise capital throughout the EU while ensuring effective investor protection. Preliminary proposals are due to be made in the first half of 2016.
iv The Market Abuse Regulation
In July 2014 the new Market Abuse Regulation (MAR) was published in the Official Journal of the European Union. This introduced a directly applicable rulebook governing market conduct, to be enforced by individual EU Member States. In broad terms, the MAR updates and strengthens the existing Market Abuse Directive to keep pace with market developments. The market abuse regulatory framework has been extended to commodity and related derivative markets; the manipulation of benchmarks has been explicitly banned; and the scope has been extended to financial instruments traded on multilateral trading facilities and other organised trading facilities (a new category of trading facility introduced by MiFID II).
MAR also introduces harmonised rules for administrative measures, sanctions and fines, with Member States being free to set higher fines and to use additional sanctioning powers.
The implementation process has continued into 2015. ESMA is due to submit draft technical standards to the Commission for adoption imminently. In particular, these standards will ‘flesh out’ the MAR provisions on market soundings, safe harbours and reporting procedures for suspicious transactions. The FCA and ESMA will consult again during 2015 on amendments to the FCA Handbook (in particular delayed disclosure of inside information and managers’ transaction notifications, two areas where limited national discretion exists) and MAR guidelines, respectively.
v Progress on MiFID II implementation
The MiFID II Directive and the MiFIR Regulation came into force on 2 July 2014. EU Member States have until 3 July 2016 to publish the measures implementing MiFID II into their national law. MiFID II must generally be implemented by Member States by 3 January 2017 (although some industry participants believe this date may be pushed back in its entirety, or implementation staggered beyond 3 January 2017, to allow firms more time to prepare), at which time most of the provisions of MiFIR will also become applicable. In the UK, HM Treasury consulted on the implementation of MiFID II in March 2015. The coalition government’s proposals were broadly to follow the same transposition structure as the implementation of MiFID (i.e., through amendments to primary and secondary legislation and mirroring the wording of MiFID II where possible). The FCA is due to formally consult on the conduct of business aspects of MiFID II later in 2015.
ESMA and the EBA have continued work on MiFID II implementation during 2014 and 2015, conducting a number of consultations on draft technical standards, advice and guidelines. Several finalised draft technical standards are now expected to be submitted by ESMA to the Commission between September and December 2015. These had been due to be submitted to the Commission in July 2015, but were delayed
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as a result of the Commission instigating an ‘early legal review’ of the drafts, with the intention that the draft technical standards will be published in more or less their final form. It was reported that the UK, Germany and France have voiced strong opposition to the ESMA proposals for pre-trade transparency requirements in liquid bonds, restrictions on providing non-independent advice and the ban on investment research being paid for from trading commissions.
vi Fair and Effective Markets Review (FEMR) completed
The FEMR made a number of varied recommendations within its report, published in July 2015, directed towards reinforcing confidence and improving conduct in the wholesale fixed income, currency and commodities (FICC) markets. Misconduct in the FICC markets has received much attention in recent years, and the FEMR acknowledges that responsibility lies not only with the firms and individuals involved, but also FICC market structures, practices and discipline. The FEMR’s earlier proposals on bringing seven major FICC benchmarks within the scope of UK regulation were implemented on 1 April 2015.
vii Update on the EU Benchmark Regulations
The proposed EU Benchmark Regulation has now entered the working group/trialogue process, involving negotiation between the European Commission, Council and Parliament to agree the final text. The likely time frame is for the draft text to be agreed by the end of the year, adoption soon after and implementation in a further 12 months. It is therefore likely to be early 2017, at the earliest, before the Benchmark Regulation takes direct effect in EU Member States, including the UK. The European Commission’s proposal for the Benchmark Regulation was extremely broad, and indications are that it is unlikely to be significantly narrowed in scope, although some indices may be excluded.
viii EU Money Market Funds Regulation
During 2014 and 2015, the EU has made progress towards the adoption of a money markets fund (MMF) regulation, which is intended to provide a regulatory structure to enhance the liquidity and stability of funds that invest in certain short-term debt instruments. MMFs provide a valuable source of refinancing for banks and corporate entities and investments in MMFs can be viewed as analogous to bank deposits; however, they lack the security of the bank deposit guarantee scheme and are susceptible to market risk. The original draft proposal for the regulation, which is now likely to enter the trialogue discussion process between the European Parliament, Council and Commission, prescribes levels of daily and weekly liquidity, and imposes requirements as to MMF marketing, credit risk assessment of MMF instruments and a constant net assets value (NAV) buffer of 3 per cent to support redemption pressure in stressed market conditions. The imposition of a NAV buffer is controversial and is likely to form a key part of the trialogue negotiations in the months ahead.
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Chapter 33
UNITED STATES
Mark Walsh and Michael Hyatte1
I INTRODUCTION
Regulation of the capital markets in the United States is principally conducted by federal government agencies, particularly the Securities and Exchange Commission (SEC).
The Securities Act of 1933 (the Securities Act) requires that all offers and sales of securities in the United States be made either pursuant to an effective registration statement or an eligible exemption from registration. In addition, any class of securities listed on a US exchange must be registered under the Securities Exchange Act of 1934 (the Exchange Act), and the relevant issuer is required to file annual and other reports with the SEC. Exchange Act registration and reporting also applies to unlisted equity securities held by a sufficiently large population of US record holders, requirements that can apply to companies organised and traded outside the United States. Companies with securities registered under the Exchange Act are also subject to the SEC’s rules on ownership reporting and tender offers.
The perspective of the SEC statutes is that persons making investment decisions in regulated transactions should have complete and reliable information. The detailed disclosure requirements that apply to such transactions are found in the rules promulgated by the SEC under the securities laws.
In addition to the SEC, other federal and state regulators and self-regulatory organisations play important roles in the oversight of the securities activities of banks,
1 Mark Walsh and Michael Hyatte are partners at Sidley Austin LLP. The authors would like to acknowledge the assistance of their colleagues, including William Shirley (Volcker Rule and CFTC); Peter Keisler, Daniel McLaughlin, Bryan Krakauer, Jilllian Ludwig and Erika Maley (litigation and bankruptcy); Nick Brown and Tim Manion (tax); and Norman Slonaker, Edward Petrosky, David Sylofski, William Massey, Edward Ricchiuto, Vivian Root and Ria Dutta (securities).
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insurers and broker-dealers, in particular. Finally, the Commodities Futures Trading Commission (CFTC) continues to adopt and propose important rules relevant to the securities industry and the capital markets.
Wide-ranging SEC rule changes have been adopted in recent years under the post-crisis Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the Dodd-Frank Act) and the Jumpstart our Business Startups Act of 2012 (the JOBS Act). These two laws have furthered apparently competing objectives. The Dodd-Frank Act, generally, sought to increase investor protection through substantive market regulation. The JOBS Act, in contrast, was intended to ease burdens associated with capital raising in the United States with liberalised advertising rules and disclosure standards. Most of the required rule changes under these Acts have now been adopted, but there have been, and will be, further important implementation measures in 2015 and beyond. Not all of the rule changes (and related SEC staff interpretations) apply to non-US issuers.
This chapter summarises some of the more important rule changes and proposals over the past year, as well as some of the more important litigation, tax and other developments likely to be of interest to capital markets practitioners outside the United States.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
In 2015, notable SEC rule changes and guidance of relevance to transactional lawyers included the adoption of Regulation A+, a small public offering exemption with filing and disclosure requirements similar to Securities Act registration, and a no-action letter designed to make it easier to conduct five-business-day tender and exchange offers for non-convertible debt securities. There were also disclosure-focused SEC rule changes and proposals that, while not all applicable to non-US issuers, are all of potential interest to those interested in shareholder activism and other corporate governance developments. 2015 also saw important further developments in relation to the Volcker Rule. These are discussed in Section II.vi, infra.
Regulation A+The SEC’s Regulation A has provided a streamlined method to allow unregistered public offerings for many years, but its very limited scope has meant that the rules have seldom been used for mainstream capital raising activities since the adoption of Regulation D in the early 1980s. Regulation A+, which came into effect in June 2015, raises the amount that can be raised in Regulation A offerings from US$5 million to US$50 million over a 12-month period.2 The new rules should result in increased use of Regulation A procedures by eligible issuers. The amendments create a two-tiered framework for Regulation A offerings. Issuers in Tier 1 may offer and sell up to US$20 million of securities over a
2 See Sidley Austin LLP, Securities Update: Regulation A+ Takes Effect on 19 June 2015: Making the Grade?, 11 June 2015 (www.sidley.com/~/media/update%20pdfs/2015/06/20150610%20securities%20update.pdf).
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12-month period. Issuers in Tier 2 may offer and sell up to US$50 million of securities over a 12-month period. The key difference between the two tiers is that a Tier 2 offering will subject the issuer to ongoing annual and other reporting requirements. Regulation A+ also includes testing-the-waters provisions and simplified disclosure and financial statement requirements. No SEC filing fees are payable in connection with Regulation A offerings.
Unfortunately, the eased capital raising requirements made possible by Regulation A+ will only be available to US and Canadian issuers. Several commentators urged the SEC to open eligibility for the regulation to issuers wherever organised, but the agency stated that it wished to observe the amended rules in operation before deciding to extend the exemption generally.
Five-business-day tender and exchange offersThe SEC’s requirements under the Exchange Act for tender and exchange offers (designed primarily for those in relation to equity securities) have long been viewed as impractical for offers of non-convertible debt securities, particularly the 20-business-day requirement mandated for such offers by Rule 14e-1 under the Exchange Act. Over the years, the staff has accommodated market participants through a series of no-action letters that allow somewhat easier requirements in relation to exchange offers for investment grade debt securities. Notwithstanding these accommodations, the perception that the staff’s position was too limited continued.
In January 2015, the SEC staff issued a no-action letter expanding its historical positions, which are expressly superseded by the letter.3 These include the extension of the staff’s no-action position beyond cash tender offers to include exchange offers and of the simplified procedures to offers in relation to non-investment grade non-convertible debt securities, which were formerly ineligible for relief. The letter reflects extensive discussions and negotiations among a group of law firms, the Credit Roundtable and the SEC staff, and applies to both US and foreign private issuers.
Under the letter, issuers will be able to conduct tender or exchange offers over a five-business-day period if the following eligibility requirements are satisfied. The offer must be: (1) made for ‘any and all’ of a series of non-convertible debt securities; (2) made by the issuer of the target securities or its 100 per cent parent or subsidiary; (3) made solely for cash and/or qualified debt securities (essentially securities that are identical in all material respects to the target securities, except as to maturity date, interest rate and other market-specific characteristics) of the issuer (or cash only for ineligible exchange offer participants); and (4) open to all record and beneficial holders of the target debt securities.
An abbreviated offer will be subject to requirements that: (1) it must not be made in connection with a solicitation of consents to amend the indenture or other
3 Securities and Exchange Commission, Abbreviated Tender or Exchange Offers for Non-Convertible Debt Securities, 23 January 2015 (www.sec.gov/divisions/corpfin/cf-noaction/2015/abbreviated-offers-debt-securities012315-sec14.pdf); see also, Sidley Austin LLP, Securities Update: SEC Guidance for Five Business Day Tender Offers and Exchange Offers for Debt Securities, 12 February 2015 (www.sidley.com/news/02-12-2015-securities-update).
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instrument governing the debt securities; (2) it must not be made if a default or event of default exists under the indenture or any other indenture or material credit agreement to which the issuer is a party; (3) it must not be made at the time the issuer is the subject of bankruptcy or insolvency proceedings, or has commenced a solicitation of consents for a ‘pre-packaged’ bankruptcy proceeding or if the board of directors has authorised discussions with creditors for a consensual restructuring of the issuer’s outstanding indebtedness; (4) it must not be financed with indebtedness that is senior in right of payment to the subject debt securities; (5) it must make provision for tenders to be made through a guaranteed delivery procedure; (6) it must make provision for withdrawal rights; (7) there can be no early settlement; and (8) it must not be made in conjunction with a range of specified material transactions, such as a change of control transaction or a competing offer.
Notice requirements include publication of a press release prior to 10am, Eastern time, on the first business day of the five-business-day offer period, the communication of related information and other offer details to beneficial holders and prospective investors, and the publication of a press release promptly after the consummation of the offer disclosing the results of the offer. SEC registrants are required to furnish the related communications to the SEC on Form 8-K. (In the case of a foreign private issuer, such a report would presumably be made on Form 6-K.)
Corporate governance rule changes and proposalsMost of the SEC’s corporate governance requirements do not apply to foreign private issuers, which are generally obliged to follow and provide disclosure with respect to their home country standards. Nonetheless, US developments (including SEC rule changes) in the area have helped to inform the corporate governance debate in Europe and elsewhere.4
One topic of continued interest in the United States and the United Kingdom is executive compensation. Acting under the Dodd-Frank Act, the SEC adopted rules in August 2015 (the subject of a Financial Times editorial5) to require public companies to disclose the ‘pay ratio’ between its CEO’s annual total compensation and the median annual total compensation of all other employees of the company.6 The pay ratio rules
4 See, e.g., Sidley Austin LLP, Corporate Governance and Executive Compensation Update: The State of Corporate Governance for 2015, 13 January 2015 (www.sidley.com/~/media/Files/NewsInsights/News/2015/01/The%20State%20of%20Corporate%20Governance%20for%202015/Files/Read%20Update%20in%20PDF%20Format/FileAttachment/011315%20Corporate%20Governance%20Update).
5 Pozen, Robert, ‘Executive pay is a touchy but misunderstood subject’, Financial Times, 2 August 2015 (www.ft.com/intl/cms/s/0/c867cf7a-3546-11e5-bdbb-35e55cbae175.html#axzz3lATeJqEc); see also, ‘Companies need to accept that remuneration is now a public issue’, Financial Times, 7 August 2015 (www.ft.com/intl/cms/s/0/11acf6fc-3cf3-11e5-8613-07d16aad2152.html#axzz3lATeJqEc).
6 See Sidley Austin LLP, Corporate Governance Update: SEC Adopts CEO Pay Ratio Disclosure Rule Required by Dodd-Frank, 12 August 2015 (www.sidley.com/~/media/update-pdfs/2015/08/0807-corporate-governance-update.pdf ).
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do not apply to foreign private issuers. Covered domestic companies will be required to provide pay ratio disclosure for fiscal years beginning on or after 1 January 2017.
In July 2015, the SEC proposed rules for clawbacks of executive compensation. The proposed rules, which were directed by Congress in the Dodd-Frank Act, would compel the US securities exchanges to adopt listing standards requiring all companies with listed securities to adopt, disclose, and enforce clawback policies applicable to executive officers. As proposed by the SEC, the rules would call for the repayment of three years’ incentive-based compensation in the event that a listed company is required to prepare an accounting restatement because of material non-compliance with any financial reporting requirement under SEC regulations. The clawback policy would apply to the listed company’s chief executive, chief financial and accounting officers, any vice-presidents in charge of a principal business unit or function, and any other person making policy for the company. Former executive officers would be included. All covered officers would be subject to the clawback without regard to personal fault. Amounts recoverable would be the excess of incentive-based compensation paid on the basis of the erroneous financial statements over what would have been paid under the restated financial statements. The proposal would allow a foreign private issuer not to seek clawbacks of covered compensation if such recovery would violate the law of the issuer’s home jurisdiction, but only if the law in question was in force before the publication of the final clawback rule in the Federal Register. Companies would be required to file their clawback policy as an exhibit to their annual report on Form 10-K or 20-F, as applicable. Failure to adopt, disclose, or enforce the required clawback policy would be grounds for delisting the company’s securities. It remains to be seen whether the rules as finally adopted will extend to foreign private issuers or be restricted to US issuers.7
In April 2015, the SEC proposed rules requiring a domestic public company to disclose how its executive compensation relates to its financial performance.8 Under the proposal, the company would be required to prepare and disclose a table showing the executive compensation paid to a company’s named executive officers and the financial performance of the company and a ‘peer group’ selected by the company for the past five years. Using the information disclosed in the table, the company would have to describe, in narrative or graphic form, the relationship between the executive compensation actually paid and the company’s cumulative total shareholder return (TSR) and the relationship between the company’s TSR and the TSR of its peer group. Although the rule may not be adopted in its proposed form, the Dodd-Frank Act mandates a rule prescribing a TSR comparison. A number of companies are already making some form of the disclosures envisaged.
7 See Sidley Austin LLP, Corporate Governance and Executive Compensation Update: SEC Proposes Compensation Clawback Rules, 7 July 2015 (www.sidley.com/~/media/update-pdfs/2015/07/0706-client-update-on-sec-proposed-clawback-rules-july-2015.pdf ).
8 See Sidley Austin LLP, Corporate Governance Update: SEC Proposes Rules Requiring Pay Versus Performance Disclosure, 1 May 2015 (www.sidley.com/news/2015-05-01-corporate-governance-update).
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Another SEC rule proposal under the Dodd-Frank Act was published for comment in February 2015.9 This would require a domestic public company to disclose whether its employees (including officers) and directors are permitted to hedge the company’s equity securities. The proposed rules are intended to ensure shareholders are informed as to whether employees or directors are allowed to engage in transactions to mitigate or avoid the risks associated with long-term ownership of a company’s stock and thereby eliminate the incentive alignment associated with equity ownership. Notably, the proposal would not require companies to prohibit such hedging.
ii Developments affecting derivatives, securitisations and other structured products
2015 also saw the introduction of important rule proposals, changes and regulatory guidance relating to securitisation transactions, derivatives and, to a lesser extent, structured products. These included final rules adopted by the SEC in relation to due diligence reports and risk retention in securitisation transactions, as well as rules proposed by the CFTC to determine the cross-border application of its margin requirements for uncleared swaps.
Dodd-Frank final ABS risk retention rulesFinal rules under the Dodd-Frank Act requiring sponsors of asset-backed securities (ABS), or their majority-owned affiliates, to retain not less than 5 per cent of the credit risk on the securitised assets on an unhedged basis, subject to various exemptions, were adopted by the SEC in October 2014.10 Generally, the risk retention requirements aim to remedy the general erosion of lending standards purportedly resulting from the ‘originate to distribute’ business model by requiring sponsors to align their economic interest with those of investors through retention of ‘skin in the game’.
These final rules apply to ABS whether such securities are publicly offered, privately placed or otherwise exempt from registration under the Securities Act, including offerings under Rule 144A. The compliance date for securitisation transactions is 24 December 2015 for ABS backed by residential mortgages and 24 December 2016 for all other asset classes. Transactions closing prior to the applicable compliance date need not conform to the final rules except in limited circumstances.
The final rules permit a sponsor’s majority-owned affiliates (wholly-owned in the case of revolving pool securitisations) to share in holding the retained interest with the sponsor. In addition, a sponsor may share its risk retention requirement with one or more originators that meet certain conditions.
9 Securities and Exchange Commission, Proposed Rule: Disclosure of Hedging by Employees, Officers and Directors, Release No. 33-9723; 34-74232, 9 February 2015 (www.sec.gov/rules/proposed/2015/33-9723.pdf ).
10 See Sidley Austin LLP, Sidley Update: Agencies Adopt Final Dodd-Frank Risk Retention Rules for Asset-Backed Securities, 25 November 2014 (www.sidley.com/~/media/Files/News/2014/11/Agencies%20Adopt%20Final%20DoddFrank%20Risk%20Retention%20Ru__/Files/View%20Update%20in%20PDF%20Format/FileAttachment/112514SidleyUpdate).
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The final rules allow a sponsor to satisfy the base risk retention requirement by retaining an eligible vertical interest, eligible horizontal residual interest or any combination thereof, as long as the percentage amount of the combined vertical and horizontal interests is no less than 5 per cent. The percentage amount of an eligible vertical interest is the percentage of each class of ‘ABS interests’ that is issued in the securitisation transaction and held by the sponsor. The percentage amount of an eligible horizontal residual interest equals the fair value (determined in accordance with US GAAP) of the eligible horizontal residual interest expressed as a percentage of the fair value of all of the ABS interests issued. An eligible horizontal residual interest need not be represented by a single class of ABS interests, but may consist of multiple adjacent classes or by the maintenance of a funded horizontal cash reserve account. In addition, a sponsor may hold an eligible vertical interest as a single vertical security. The final rules also impose detailed disclosure obligations and require sponsor certifications with respect to fair value determinations of eligible horizontal residual interests and certain other material items.
The rules generally permit interest rate and currency hedging and certain limited index-based hedging activities. Separate sunsets on the hedging and transfer restrictions for sponsors of residential mortgage-backed securities (RMBS) and non-RMBS transactions apply.
The final rules also specify various exemptions to the standard risk retention requirements depending on the particular asset class or other criteria. For example, sponsors of RMBS transactions for which the collateral consists entirely of ‘qualified residential mortgages’ and certain other qualifying assets will not be obligated to satisfy the requirements. Qualified residential mortgages for purposes of risk retention are ‘qualified mortgages’ that satisfy the US Consumer Financial Protection Bureau’s ability-to-repay rules. The final rules also contain a safe harbour from risk retention for foreign-based securitisation transactions that satisfy certain conditions, including that: a the securitisation transaction is not, and is not required to be, registered under the
Securities Act; b the initial investors that are US persons constitute no more than 10 per cent of
the dollar value (or foreign currency equivalent) of all classes of ABS interests; c neither the sponsor nor the issuer is formed under United States federal or
state law or is the unincorporated US branch or office of an entity not formed thereunder; and
d no more than 25 per cent of the assets collateralising the ABS sold in the securitisation transaction were acquired by the sponsor from a consolidated affiliate of the sponsor or issuing entity that is a US-located entity described in (c) above.
Significantly, the regulations do not recognise satisfaction of risk retention under other regimes, including the EU Capital Requirements Regulation, as sufficient to satisfy the final rules.
New SEC rules requiring disclosure of certain ABS due diligence reportsIn August 2014, the SEC implemented final rules under the Dodd-Frank Act that expand disclosure requirements concerning due diligence services conducted by third
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parties engaged by the issuer or underwriter of rated ABS, whether publicly registered under the Securities Act or exempt from registration. The rules are intended to improve the quality of credit ratings by providing more comprehensive and accurate information, to reduce information asymmetries between investors and transaction participants and to increase transparency regarding the due diligence process. The effective date for the final rules was 15 June 2015.11
Under new Rule 15Ga-2, an issuer or underwriter of an ABS that will be rated by a nationally recognised statistical rating organisation (NRSRO) must furnish to the SEC on Form ABS-15G, at least five business days prior to the first sale in the offering, the findings and conclusions of any third-party due diligence report obtained by the issuer or underwriter.
Rule 17g-10 defines a third-party due diligence report as any report containing findings and conclusions of any due diligence services, including a review of the assets underlying an ABS for the purpose of making findings with respect to the accuracy of the information about the assets provided by the securitiser or originator of the assets, whether the origination of the assets conformed to underwriting criteria, compliance with applicable laws or any other characteristic that would be material to the payment on the ABS. The adopting release to the final rules clarifies that the definition of due diligence services is intended to cover reviews of assets by diligence providers that are commonly understood in the securitisation markets to be third-party due diligence services.
For registered ABS transactions, if the required disclosures under Rule 15Ga-2 have been made in the related prospectus, the issuer or underwriter may satisfy its disclosure obligation by referring to that section of the prospectus in the Form ABS-15G. Unrated ABS and unregistered offshore offerings having an issuer that is not a US person and for which the security will be offered and sold only in transactions that occur outside the United States generally are not subject to the final rules.
Rule 17g-10 requires providers of third-party due diligence services to an NRSRO, issuer or underwriter to deliver a written certification on new Form ABS Due Diligence-15E to any NRSRO that produces a credit rating to which the services relate and to the issuer or the underwriter responsible for maintaining the transaction website under Rule 17g-5. The NRSRO must disclose any certification on Form ABS Due Diligence-15E received from a third-party due diligence provider in a report accompanying each rating action to which the certification relates and to what extent it used due diligence services of a third party in taking the rating action.
11 See Sidley Austin LLP, Global Finance Update: SEC Releases Final Rules on Third-Party Diligences Reports for Asset-Backed Securities, 27 October 2014 (www.sidley.com/~/media/Files/News/2014/10/SEC%20Releases%20Final%20Rules%20On%20ThirdParty%20Diligence__/Files/Read%20Update%20in%20PDF%20Format/FileAttachment/20141027%20Global%20Finance%20Update); Sidley Austin LLP, Global Finance Update: SEC Issues Final Rules for Asset-Backed Securities with Respect to Certain Third-Party Due Diligence Services Provided in Rated Transactions, 28 August 2014 (www.sidley.com/en/news/08-28-2014-global-finance-update).
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CFTC rule proposal for cross-border application of margin requirements for uncleared swapsIn June 2015, the CFTC proposed rules that will determine the cross-border application of its margin requirements for uncleared swaps.12 The proposal reflects a significant re-evaluation of the agency’s 2013 cross-border interpretation, which had been the subject of much comment and criticism. Importantly, the proposal has narrowed the definitions of US person and guarantee for purposes of applying its margin requirements for uncleared swaps, has indicated a willingness to alter the means by which it takes cross-border regulatory action related to swaps (rule-making versus interpretive guidance), and has signalled a greater interest in collaborating and finding common ground with regulators in other countries, perhaps evidencing a desire on the CFTC’s part to exercise a regulatory oversight role not unlike that exercised by bank regulators in relation to consolidated supervision.
The CFTC’s proposal should be read together with the rules proposed separately in 2014 by the various bank regulators and by the CFTC which would establish the requirements for initial and variation margin that CFTC-registered swap dealers and major swap participants must post to and collect from their counterparties.13 The 2014 proposals mirror to a significant degree the final international standards on margin requirements for non-centrally cleared derivatives issued in September 2013 by the Basel Committee on Banking Supervision and the Board of the International Organization of Securities Commissions.
SEC guidance in relation to structured notesFor several years, the SEC staff has expressed concerns related to the complexity of structured note products and the adequacy of related disclosures. This continues to be a topic of concern. In August 2015, the Office of Compliance Inspections and Examinations published a risk alert regarding broker-dealer controls in relation to the retail sale of structured products.14
iii Cases and dispute settlement
The global financial crisis has generated more litigation and regulatory enforcement action than any other crisis. At the cost of billions of dollars, US and other banks with US operations continue to defend and settle multiple claims by private and
12 See Sidley Austin LLP, Derivatives Update: CFTC Proposes Rules for Cross-Border Application of Margin Requirements for Uncleared Swaps, 4 August 2015 (www.sidley.com/~/media/20150804-derivatives-update.pdf ).
13 See Sidley Austin LLP, Derivatives Update: Margin Requirements for Uncleared Swaps Continue to Take Form: Prudential Regulators and CFTC Re-Propose Similar Rules, 12 November 2014 (www.sidley.com/news/11-12-14-derivatives-update).
14 Securities and Exchange Commission, Office of Compliance Inspections and Examinations, National Exam Program Risk Alert: Broker-Dealer Controls Regarding Retail Sales of Structure Securities Products, Vol. IV, Issue 7, 24 August 2015 (https://www.sec.gov/about/offices/ocie/risk-alert-bd-controls-structured-securities-products.pdf ).
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governmental claimants in relation to misselling, foreign currency, interest rate and other market manipulation, as well as the alleged abuse of Foreign Corrupt Practices Act, Office of Foreign Assets Control and other sanctions issues. Although not all such cases raise issues of significance to capital markets lawyers, there have been important federal court decisions in relation to conflict minerals, disclosure, sovereign immunity and other matters.
Conflict Minerals caseThe US Court of Appeals for the DC Circuit recently confirmed its 2014 decision to strike down a key part of the SEC’s ‘conflict minerals’ rule under the Dodd-Frank Act. The ‘conflict minerals’ statute15 and the SEC rule implementing it16 require all Exchange Act reporting companies whose products contain tin, tantalum, tungsten or gold to conduct due diligence to attempt to determine whether those minerals may have originated from the Democratic Republic of the Congo (DRC) or adjoining countries and, if so, whether proceeds from those minerals may have ‘directly or indirectly finance[d] or benefit[ed] armed groups’ committing human rights abuses.17 Unless a company can conclude that it has no ‘reason to believe’ the minerals ‘may have originated’ from the DRC region, or can confirm that the minerals did not ‘directly or indirectly finance or benefit armed groups’, the rules require the company to state on its website and in public reports filed with the SEC that the products have not been found to be ‘DRC conflict-free’.18
The National Association of Manufacturers, the Chamber of Commerce, and Business Roundtable filed suit, raising a number of arguments under the Administrative Procedures Act, and also contending that the compelled statement that products had not been found to be ‘DRC conflict-free’ violated the First Amendment. In 2014, a panel of the DC Circuit denied the Administrative Procedures Act challenges, but agreed that the compelled statement violated the First Amendment, because it ‘requires an issuer to tell consumers that its products are ethically tainted, even if they only indirectly finance armed groups’, a message with which issuers may strongly disagree. Following the decision, the SEC staff announced that it ‘expects companies to file any reports required’,19 disclosing the factual information required by the rule, including a ‘description of the due diligence that the company undertook’.20 However, statements whether products are ‘DRC conflict-free’ would not be required.21
15 15 U.S.C. § 78m(p).16 77 Fed. Reg. 56,274 (12 September 2012).17 15 U.S.C. § 78m(p)(1)(A)(ii); 77 Fed. Reg. at 56,364.18 15 U.S.C. § 78m(p)(1)(A)(ii); 77 Fed. Reg. at 56,363.19 Keith F Higgins, Statement on the Effect of the Recent Court of Appeals Decision on
the Conflict Minerals Rule, 29 April 2014 (www.sec.gov/News/PublicStmt/Detail/PublicStmt/1370541681994#.VJhGUs8BAA).
20 Id.21 Id.; see also, Higgins, Keith F, Securities and Exchange Commission, Statement on the Effect
of the Recent Court of Appeals Decision on the Conflict Minerals Rule, 29 April 2014 (www.sec.gov/News/PublicStmt/Detail/PublicStmt/1370541681994).
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Omnicare caseUS courts deal frequently with issues regarding the kinds of statements (or failures to make disclosure) that can be the subject of private lawsuits and regulatory enforcement actions, and disclosure counsel must be versed in these varying requirements, but the US Supreme Court only rarely addresses these questions. In one 2015 case, however, the Court offered guidance on a question that arises frequently for both registered and unregistered offerors: can statements of opinion, rather than statements of fact, lead to liability under the federal securities laws? The Court, in Omnicare, Inc. v. Laborers District Council Construction Industry Pension Fund,22 gave a qualified answer to that question: an opinion cannot be a false statement unless the speaker does not actually believe it (and unless it is also objectively factually incorrect). But a statement of opinion can give rise to liability for an omission when a statement falsely implies that the speaker had a reasonable factual basis for the opinion, or when the statement implies the existence of some fact that is not true.
Omnicare arose from a pharmacy-services company’s regulatory problems due to alleged illegal kickbacks. The company said in the registration statement for a stock offering that it believed its business practices were ‘in compliance with applicable federal and state laws’ and ‘legally and economically valid’.23 As the Court noted, ‘a statement of fact (‘the coffee is hot’) expresses certainty about a thing, whereas a statement of opinion (‘I think the coffee is hot’) does not,’ but ‘every such statement explicitly affirms one fact: that the speaker actually holds the stated belief ’ and thus there could be liability for misrepresenting an opinion only where the speaker did not actually believe the opinion.24
The Court noted that, in some cases, simply adding ‘I believe’ to the statement would make it an opinion.25 Because the plaintiffs in Omnicare ‘do not contest that Omnicare’s opinion was honestly held,’ the Court did not discuss further what evidence would be sufficient to show that a company did not believe its own statements, but it did emphasise the prohibition on false and misleading statements.26
The Omnicare Court also commented that a statement of opinion may be materially misleading if it implied a factual basis for the opinion that did not exist. The Court warned that ‘a reasonable investor may, depending on the circumstances, understand an opinion statement to convey facts about […] the speaker’s basis for holding that view.’27 The Court did not address in practice how its standard would apply to actions against underwriters, accountants or other third parties rather than issuers, although the same statutory analysis would apply.
22 135 S. Ct. 1318 (2015).23 Omnicare, 135 S. Ct. at 1323.24 Id. at 1325-26.25 Id. at 1326.26 Id. at 1327.27 Id. at 1328.
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In re Madoff SecuritiesThe widespread perception that US courts will give extraterritorial effect to US securities laws is perhaps sometimes overstated. On 6 July 2014, the US District Court for the Southern District of New York issued a decision in Securities Investor Protection Corporation v. Bernard L. Madoff Investment Securities LLC (In re Madoff Securities),28 in which Judge Rakoff held that Section 550(a) of the Bankruptcy Code and the complementary provision in the Securities Investor Protection Act of 1970 (SIPA) did not apply extraterritorially, blocking the trustee’s efforts to recover allegedly fraudulent transfers that were received abroad by foreign transferees.
At issue in Madoff was the recoverability of funds that were transferred from Bernard L. Madoff Investment Securities LLC (Madoff Securities) in New York to certain foreign feeder funds, which were in turn transferred to the funds’ foreign customers, asset managers, and other persons and entities. The trustee sought to avoid and recover those transfers for the benefit of Bernard Madoff’s defrauded investors. In response to the transferees’ motions to dismiss, the trustee argued that the proper focus of the court’s jurisdictional inquiry was the domestic nature of the SIPC-member US broker-dealer that was the subject of the SIPC liquidation; here, Madoff Securities.
In rejecting the trustee’s arguments, the Madoff court applied the presumption that US statutes have no extraterritorial application absent a ‘clearly expressed’ intent by Congress to give a statute extraterritorial effect.29 Judge Rakoff determined that it was the transfer itself, not the transferor, that was the proper focus of the court’s inquiry. ‘Although the chain of transfers originated with Madoff Securities in New York,’ the court found that fact alone was ‘insufficient to make the recovery of these otherwise thoroughly foreign subsequent transfers into a domestic application of section 550(a).’30 The Madoff court concluded that the application of the Bankruptcy Code’s recovery provisions to the challenged transfers would constitute an extraterritorial application of the statute, Congress did not intend such an application, and that even if the relevant provisions could be applied extraterritorially, such an application would be precluded by considerations of international comity.
The decision in Madoff has not yet been subject to appeal, but two subsequent opinions of the US Court of Appeals for the Second Circuit likewise rejected the extraterritorial application of US securities laws consistent with the analysis set forth by the District Court in Madoff.31
28 513 B.R. 222 (S.D.N.Y. 2014) (Madoff ).29 Morrison v. Nat’l Australia Bank Ltd., 561 U.S. 247 (2010).30 Madoff, 513 B.R. at 228.31 See Parkcentral Global Hub Ltd. v. Porsche Automobile Holdings SE, 763 F.3d 198 (2d Cir.
2014) (holding that security-based swaps (SBS) referencing stocks traded exclusively in foreign jurisdictions could not be the basis of liability under Section 10(b) of the Exchange Act for statements made in foreign jurisdictions by foreign individuals, despite the fact that the SBS trades themselves took place in the US); Liu v. Siemens AG, 763 F.3d 172 (2d Cir. 2014) (holding that that the whistle-blower anti-retaliation provision in the Dodd-Frank Act
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Developments in the Argentinian bond litigationThe ongoing dispute in the New York federal courts regarding the repayment of certain of Argentina’s defaulted bonds continues to place significant constraints on Argentina’s access to the international capital markets. Two recent decisions by the US District Court for the Southern District of New York, favouring the so-called ‘holdout’ bondholders who have been locked in litigation with the Republic since 2002, illustrate the far-reaching consequences to Argentina of the pari passu provision, forum selection clause, and waiver of sovereign immunity in the operative bond agreement.
The bond dispute arose in 2001 when, amid a severe financial crisis, the Republic of Argentina defaulted on more than US$80 billion of sovereign debt issued under a 1994 Fiscal Agency Agreement (the FAA bonds). Argentina restructured more than 91 per cent of its bond debt in 2005 and 2010, issuing replacement ‘exchange bonds’ to the settling bondholders at a rate of 25 to 29 cents on the dollar.32 The exchange bonds are composed of various series, including dollar-denominated bonds governed by New York law, dollar-denominated bonds governed by Argentine law, euro-denominated bonds governed by English law, and peso-denominated bonds governed by Argentine law.
Certain distressed sovereign debt investors, however, rejected the terms offered by Argentina to restructure their FAA bonds. These ‘holdout’ bondholders, led by NML Capital, filed suit in the US District Court for the Southern District of New York in 2002, pursuant to a forum selection clause and waiver of sovereign immunity by Argentina in the FAA. The holdouts sought enforcement from the District Court of the pari passu provision in the FAA, which provided that the FAA bonds ‘shall at all times rank at least equally with all its other present and future unsecured and unsubordinated External Indebtedness’. Because the FAA bonds were in default and due in full, the holdouts argued that the settling bondholders could not receive any payments of principal or interest on account of their exchange bonds unless the holdouts were paid in full. Judge Griesa concurred and on 23 February 2012 issued an injunction preventing Argentina from making any payments on the exchange bonds absent full payment to the holdouts on account of the FAA bonds. Following an appeal and remand, the injunction was modified on 21 November 2012. The modified injunction was affirmed on appeal to the US Court of Appeals for the Second Circuit but was stayed pending appeal to the US Supreme Court. On 16 June 2014, the US Supreme Court denied Argentina’s petition for certiorari, which allows the injunction to stand.
The holdouts have been awarded numerous final judgments against Argentina on account of their FAA bonds, totalling approximately US$2.4 billion in principal and interest. However, Argentina has made no payments on the holdout FAA bonds. The holdouts have continued to aggressively litigate their claims in the New York courts and have obtained orders from the District Court barring Argentina’s attempts to repay the dollar-denominated exchange bonds governed by New York law, dollar-denominated
did not apply to a non-US citizen overseas employee of a foreign employer solely by virtue of the fact that the employer had listed securities on a US exchange).
32 NML Capital, Ltd. v. Republic of Argentina, 699 F.3d 246, 252 (2d Cir. 2012).
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exchange bonds governed by Argentine law,33 and euro-denominated exchange bonds governed by English law,34 all of which the District Court has determined are subject to the pari passu clause in the FAA. The practical and cumulative effect of these orders has been to block Argentina from repaying any of the exchange bonds other than the peso-denominated exchange bonds governed by Argentine law and to preclude Argentina from selling new bonds in the international capital markets.
More recently, on 16 July 2015, the District Court authorised the holdout bondholders to amend their complaints against Argentina to seek declaratory judgments that certain additional Argentine law-governed non-exchange bonds are also subject to the pari passu clause in the FAA, on the grounds that they too are dollar-denominated.35 This litigation puts at issue yet another one of Argentina’s debt issuances.
Investors and analysts are now looking ahead to the October 2015 elections in Argentina, which many view as Argentina’s best opportunity to reach a settlement with the holdouts and resolve this dispute.
iv Relevant tax and insolvency law
Foreign Account Tax Compliance Act (FATCA)FATCA, which was enacted by Congress in 2010 to combat tax avoidance by US taxpayers using foreign accounts and established a global approach to combating offshore tax evasion, continues to be the US tax law development of greatest interest to international capital markets lawyers. In the years following FATCA’s enactment, the US Internal Revenue Service (IRS) attempted to achieve a practical implementation of FATCA, but was forced to repeatedly revise its guidance and to postpone FATCA’s implementation. The IRS finally found a workable framework for implementing FATCA with final and temporary regulations that were released in early 2014, and FATCA withholding and reporting officially came into effect on 1 July 2014. Although there are several areas within FATCA that still need to be addressed in future IRS guidance, the final and temporary regulations released in 2014 remain in effect. FATCA withholding currently applies to payments of interest, but will not apply with respect to gross proceeds from the disposition of property that could give rise to US source interest or dividends until 1 January 2017. It is of particular relevance to US issuers making payments outside the
33 Opinion, NML Capital, Ltd. v. Republic of Argentina, No. 08-06978 (S.D.N.Y. 12 March 2015) (concluding that the dollar-denominated Argentine law-governed exchange bonds constitute ‘external indebtedness’ of Argentina subject to the pari passu clause, by virtue of the fact that they were denominated in US dollars and were ‘offered in many countries, not exclusively in Argentina’).
34 Order, NML Capital, Ltd. v. Republic of Argentina, No. 08-06978 (S.D.N.Y. 6 August 2014) (stating that Argentina’s attempted repayment of the euro-denominated exchange bonds violated the 2012 injunction and requiring The Bank of New York Mellon to retain the funds it received from Argentina for the repayment of such bonds in its account pending further court order), appeal denied, NML Capital, Ltd. v. Euro Bondholders, No. 14-2922 (2d Cir. 22 October 2014).
35 Order, NML Capital, Ltd. v. Republic of Argentina, No. 08-06978 (S.D.N.Y. 16 July 2015).
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United States, but does not apply to most debt and equity securities issued by non-US banks to US investors.
The United States has entered into intergovernmental agreements with 72 countries, and reached agreements in substance with 40 countries, to facilitate the implementation of FATCA. Under a ‘model 1’ intergovernmental agreement, a foreign financial institution would not be required to report information under FATCA to the IRS but would instead report to the tax authorities in its own country. Under a ‘model 2’ intergovernmental agreement, a foreign financial institution would be required to report to the IRS and obtain consent from its account holders to such reporting. A foreign financial institution that complies with the requirements of an intergovernmental agreement is generally not subject to FATCA withholding.
v Role of exchanges, central counterparties and rating agencies
Acting pursuant to rulemaking mandated in the Dodd-Frank Act, the SEC adopted new rules in 2014 governing nationally recognised statistical ratings agencies or NRSROs. Most important, new Exchange Act rules require the establishment, maintenance, enforcement and documentation of effective internal control structures by NRSROs. The required controls should provide for the appropriate review of new or amended ratings methods, regular internal audits of ratings methods, measures to evaluated the performance of credit ratings. An annual report on an NRSRO’s internal controls, including an attestation of its chief executive, will be required for any fiscal year ending on or after 1 January 2015. New Exchange Act Rule 17g-5 seeks to prevent conflicts of interest for NRSROs by forbidding the participation of sales and marketing staffs and any personnel influenced by sales and marketing considerations in the ratings process, including the design or approval of ratings procedures or methods. Credit analysts will be subject to a look-back review to determine whether the prospect of future employment with an issuer or underwriter may have influenced an analyst’s ratings under Rule 17g-8. Any rating found to have been so influenced must be revised in accordance with standards promulgated by the SEC.
vi Other strategic considerations
Volcker RuleThe Volcker Rule under the Dodd-Frank Act prohibits covered financial institutions from engaging in ‘proprietary trading’ and from acquiring or retaining ownership interests in, or sponsoring, hedge funds, private equity funds and certain other private funds (subject to certain exceptions). On 21 July 2015, with an important exception relating to ‘legacy covered funds’, compliance with the rule became mandatory. The Federal Reserve and other US agencies have published their interpretation regarding the scope of an exception for certain covered fund investment activities of foreign banking organisations.
An order published in December 2014 (the Extension Order) extended the conformance period under the Volcker Rule until 21 July 2016 (and announced an intention to extend the conformance period a further year to 21 July 2017) for purposes of permitting banking entities additional time to conform investments in, and relationships
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with, ‘covered funds’ and certain foreign funds (legacy covered funds).36 The Extension Order applies to banking entities only with respect to investments in, and relationships with, legacy covered funds that were in place prior to 31 December 2013. The Extension Order provides conformance period relief to banking entities with respect not only to such ‘legacy’ covered funds (as defined under the Volcker Rule) but also to a second category of legacy funds, which the order describes as ‘foreign funds that may be subject to the provisions of [the Volcker Rule]’. Although the Extension Order did not elaborate on the second category, the category would seem to be designed for foreign funds that are not covered funds, particularly those that may be considered banking entities themselves (and thus subject directly to the Volcker Rule).
In February 2015, the Federal Reserve and other responsible US agencies clarified via an FAQ (the New FAQ) the circumstances under which a foreign banking entity may continue to hold, or may make, investments in ‘third-party covered funds’.37 The guidance limits the need for managers to restructure their third-party covered funds to accommodate many existing – and future – investments by foreign banking entities.
The Volcker Rule includes an exception to its covered fund prohibitions that permits a foreign banking entity to acquire or retain an ownership interest in, or to sponsor, a covered fund ‘solely outside of the United States’ (the SOTUS Exemption). One of the four criteria of the SOTUS Exemption is that no ownership interest in the covered fund may be offered for sale or sold to a resident of the United States (the Marketing Restriction). Before the New FAQ, it was unclear whether the Marketing Restriction limited the marketing and sales activities only of the foreign banking entity seeking to take advantage of the SOTUS Exemption or, alternatively, applied more generally. In other words, it was unclear whether a foreign banking entity could invest in a covered fund offered and sold in the United States even if the covered fund was not sponsored, organised, offered or advised by the foreign banking entity (e.g., a third-party sponsored Cayman Islands-domiciled ‘feeder fund’ marketed to both US tax-exempt investors and non-US investors). The New FAQ confirms that the SOTUS Exemption imposes the Marketing Restriction only on the activities of the foreign banking entity seeking to rely on the SOTUS Exemption and not on the activities of unaffiliated third parties. In particular, the New FAQ states that a foreign banking entity may invest in a covered fund in reliance on the SOTUS Exemption even if the covered fund is sold to
36 Federal Reserve Board, Order Approving Extension of Conformance Period Under Section 13 of the Bank Holding Company Act, 18 December 2014 (www.federalreserve.gov/newsevents/press/bcreg/bcreg20141218a1.pdf ); see also, Sidley Austin LLP, Banking and Financial Services Update: Volcker Rule: Conformance Period Extended for Certain Legacy Covered Funds, 24 December 2014 (www.sidley.com/news/12-24-14-banking-and-financial-services-update).
37 See Federal Reserve Board, Frequently Asked Questions: Volcker Rule – SOTUS Covered Fund Exemption: Marking Restriction, 27 February 2015 (www.federalreserve.gov/bankinforeg/volcker-rule/faq.htm); see also, Sidley Austin LLP, Banking and Financial Services Update: Volcker Rule: Clarification of Covered Fund ‘SOTUS’ Exemption, 3 March 2015 (www.sidley.com/news/03-03-2015-banking-and-financial-services-update).
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US residents so long as neither the foreign banking entity nor any of its affiliates acts as sponsor of – or serves, directly or indirectly, as the investment manager, investment adviser, commodity pool operator or commodity trading adviser to – the covered fund (a third-party covered fund) and the foreign banking entity otherwise complies with the provisions of the SOTUS Exemption.
III OUTLOOK AND CONCLUSIONS
The past 12 months has in many respects been a continuation of the post-financial crisis regulatory reform era, with perhaps some evidence of a desire by the SEC, the CFTC and others, where possible, to ease the regulatory burdens on capital raising that have become noteworthy as a result of the Dodd-Frank Act in particular. It is interesting to compare the increased flexibility evidenced by Regulation A+ and the no-action letter relating to tender and exchange offers with the Dodd-Frank mandated changes, such as the risk-retention rules and disclosure of due diligence reports applicable to securitisation transactions and, of course, Volcker. In other areas, such as the corporate governance arena and the structured note market, the staff continues to evidence obvious concern about industry trends and market practice, and remains willing to assert (not always successfully) its jurisdiction through the courts and otherwise. There is continued attempted harmonisation of the requirements of the CFTC, Federal Reserve and other domestic and international regulators, and ongoing active enforcement of FCPA, OFAC and other US laws and requirements. However, notwithstanding the associated regulatory burdens, the United States continues to be a key market for prospective issuers of debt and equity securities, not least because of its continued market stability and depth relative to other markets.
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Appendix 1
ABOUT THE AUTHORS
ABDULLAH ALHAROUNInternational Counsel BureauAbdullah Alharoun is a legal counsel at the International Counsel Bureau (ICB). He has worked and studied in four different countries, giving him a multi-disciplinary professional background.
Since coming on board at ICB, Mr Alharoun has worked with a number of major local and multinational corporations across a multitude of sectors and industries, offering legal counsel and advice on various aspects of corporate commercial law, in addition to the practices of capital markets, mergers and acquisitions, banking and finance, and privatisation and projects.
Prior to joining ICB, he served as a legal advice team volunteer in Toynbee Hall in London, the world’s oldest surviving free legal advice centre. He held the position of legal practice assistant at Pillsbury Winthrop Shaw Pittman LLP, in Washington, DC. Mr Alharoun has also gained work experience at Ashurst LLP in London and as an environmental health and safety intern at Hunt Oil Company in Dallas, Texas.
He obtained his bachelor of laws from Queen Mary University of London. He also holds a bachelor of science in environmental sciences (specialism in neuroscience) from Dalhousie University in Halifax, Canada. He is a member of the Kuwait Bar Association.
JAKOB GREGERS ANDERSENGorrissen FederspielJakob Gregers Andersen is assistant attorney in Gorrissen Federspiel’s capital markets group and has recently assisted in the IPOs of NNIT and ISS.
RENÉ ARCE LOZANOHogan Lovells BSTL, SCRené Arce Lozano is a partner in the international debt capital markets practice group working out of the Monterrey and Mexico City offices of Hogan Lovells BSTL, advising clients mainly on structured transactional work involving asset-backed financing, direct
About the Authors
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financing and infrastructure financing, both in the public and private sectors, among other transactional work. He also regularly works with financial institutions and rating agencies on regulatory matters as well as in general corporate work involving M&A transactions. René has been recognised by a number of international legal publications involving structured financing transactions.
JUAN LUIS AVENDAÑO CMiranda & Amado AbogadosJuan Luis Avendaño C has been a partner at Miranda & Amado since 2003. He graduated from Universidad de Lima in 1995 and Yale Law School in 1998 and worked with Curtis, Mallet-Prevost, Colt & Mosle LLP, New York from 1998 to 2000. Mr Avendaño specialises in banking regulation and financial transactions work. He played a leading role in several of the largest cross-border capital markets and banking operations in Peru (for approximately US$12 billion), advising Citibank, Morgan Stanley, Bank of America, JPMorgan, Deutsche, Standard Chartered, SMBC, Bank of Tokyo, China Development Bank, Itau, BTG Pactual, BBVA and Credicorp Capital, among others, in structuring complex banking instruments and loan facilities for major Peruvian banks, including hybrid instruments, subordinated debt, securitisations, covered and corporate bonds. He has also advised Citibank, Deutsche Bank, HSBC, Celfin, Larrain Vial, Itau, IDBNY, among others, in obtaining their respective licences to operate in Peru, as well as several investment fund managers, traders and issuers in public offerings. He also does regular pro bono work.
LUCÍA BÁEZ DE HOYOSHogan Lovells BSTL, SCLucía Báez de Hoyos is an associate in the international debt capital markets practice group working out of the Monterrey office of Hogan Lovells BSTL, advising clients mainly on structured transactional work involving asset-backed financing, direct financing and infrastructure financing, both in the public and private sectors, among other transactional work.
RANAJOY BASUReed SmithRanajoy Basu has several years’ experience in structured finance, securitisations, derivatives, debt capital markets and debt restructurings. He has advised a wide range of participants, including arrangers, originators, servicers and trustees, in connection with the securitisation of a wide variety of assets in numerous jurisdictions. His experience includes covered bond transactions, stand-alone RMBS deals, emerging market securitisations, infrastructure financings, segregated asset pool programmes, master trust programmes, ABCP conduits, medium term note programmes, renewable energy project bonds and synthetic securitisations. He is dual-qualified in England and India.
MORTEN NYBOM BETHEGorrissen FederspielMorten Nybom Bethe is a partner in Gorrissen Federspiel’s banking and finance group and advises Danish and international financial institutions on all aspects of financial law, securities, structured products, securitisations, insurance law, project financing and
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regulatory matters including netting, collateral and clearing. Morten Nybom Bethe has extensive experience in establishing, buying and selling financial institutions. Morten Nybom Bethe worked as a visiting foreign lawyer with Sullivan & Cromwell in New York from 2003 to 2004.
TAMARA BOXReed SmithTamara Box is the global chair of the financial industry group and the head of structured finance at Reed Smith. She has more than 20 years’ experience in advising arrangers, dealers, issuers and trustees in a wide range of debt instruments, including bonds (securitisations, project bonds, high-yield, convertible, and exchangeable bonds and Islamic bond issuances), the establishment of debt programmes, liability management, and private placements. Ms Box has advised all participants, including arrangers, originators, servicers and trustees, in the securitisation of a wide variety of assets in numerous jurisdictions. She also regularly advises trustees, issuers, arrangers, investors and servicers in securitisations, high-yield bonds, structured debt restructurings and workouts.
DEEMPLE BUDHIARussell McVeaghDeemple Budhia is a specialist in securitisation, covered bonds, debt capital markets, derivatives and financial services regulation. Prior to joining Russell McVeagh, she spent several years in London working in Allen & Overy’s securitisation team and Citibank’s European commercial property and securitisation team.
SANDRA CARDOSOVieira de Almeida & Associados, Sociedade de Advogados RLSandra Cardoso has a law degree from the New University of Lisbon Faculty of Law, an LLM from the Erasmus University in Rotterdam and a postgraduate degree in securities law from the Lisbon Faculty of Law. She joined Vieira de Almeida & Associados in 2013, after working at the Portuguese Securities Commission (CMVM) since 2009. She has been actively involved in capital market transactions, including takeovers, liability managements, asset-backed securities, debt and hybrid instruments, IPOs, ABBs and derivatives. She has also been a speaker at various conferences.
GUSTAVO FERRARI CHAUFFAILLEPinheiro Neto AdvogadosGustavo Ferrari Chauffaille is an associate in Pinheiro Neto’s corporate department, practising in the São Paulo office. He advises corporate and investment banking clients on securities offerings and public listings, mergers and acquisitions and corporate finance transactions generally.
SHAIMERDEN CHIKANAYEVGRATA Law FirmShaimerden Chikanayev is a partner in GRATA’s banking and finance group and head of the firm’s Mongolia practice. Shaimerden received his LLM from the Duke University School of Law (USA), his bachelor degree in law from the Eurasian National University
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Faculty of Law (Kazakhstan), and completed a non-degree course of studies for foreign diplomats at the China Foreign Affairs University (PRC). He has been admitted to practise in Kazakhstan since 2003 and passed exams of the Ministry of Justice of Kazakhstan to be a notary (2003) and an advocate (2004).
Shaimerden Chikanayev has over 10 years of experience in the Kazakh legal services market as well as experience in matters dealing with the former Soviet Union and Mongolia. Prior to joining GRATA Law Firm, he worked as an associate in the Almaty office of Dewey & Leboeuf and as in-house counsel in the London office of the European Bank for Reconstruction and Development. Shaimerden focuses his practice on a wide range of finance and M&A transactions, including project finance and capital markets, infrastructure transactions, and workouts and restructurings in many industries.
DAMLA DOĞANCALIKolcuoğlu Demirkan Koçaklı Attorneys at LawDamla Doğancalı is a counsel at Kolcuoğlu Demirkan Koçaklı. After spending more than 10 years in distinguished law firms in Istanbul and British American Tobacco Turkey, Ms Doğancalı joined Kolcuoğlu Demirkan Koçaklı in 2015. She has extensive experience in capital markets, mergers and acquisitions, and privatisation transactions, particularly in regulated sectors. She currently specialises in capital markets law in various areas including equity offerings, debt offerings, investment funds, compliance and corporate governance advice and financial services. She represented Bank of America Merrill Lynch and Halk Yatırım as underwriters in the secondary public offering of Emlak Konut, and Finansinvest and Citigroup Global Markets Limited as underwriters in the secondary public offering of Halk Bank. Besides her capital markets practice, she also has M&A transactions experience. She has advised international and domestic corporations and foreign private equity funds.
VISHNU DUTT UBharucha & PartnersVishnu is a partner at Bharucha & Partners and focuses on corporate M&A, advising on domestic and cross-border acquisitions, and capital markets. He has advised on several domestic capital market deals including IPOs and qualified institutions placements. His experience extends to international equity and debt issues including GDRs and medium term notes. Vishnu’s capital markets exposure has led to engagements with foreign institutional investors, mutual funds and portfolio management services, including establishment of singular products.
MARIA TERESA D MERCADO-FERRERSyCip Salazar Hernandez & Gatmaitan Maria Teresa D Mercado-Ferrer’s areas of practice cover banking, finance and securities; intellectual property, including licensing and franchising; mergers and acquisitions; investments; and food and drugs.
Some of the transactions Ms Ferrer handled include the public offering of 75 billion pesos worth of series 2 preferred shares by San Miguel Corporation in 2012; the acquisition of Digital Telecommunications by Philippine Long Distance Company in 2011; and the acquisition of e-Telecare by Stream International in 2009.
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She is a member of Licensing Executives Society International, Licensing Executives Society-Philippines, and the UP Women Lawyers’ Circle. She co-authored the Philippines chapter of CCH Doing Business in Asia.
CASPAR FOXReed SmithCaspar Fox is the firm’s head of European tax and is based in the London office. His experience includes advising on the UK tax aspects of a broad range of corporate and finance matters, often with international aspects. Caspar has a particular focus on cross-border corporate structuring and on financial services and alternative funds work. He has considerable experience of providing international tax structuring advice, often where there is no significant UK element. This includes recommending appropriate holding company or fund structures for new investments or group reorganisations and the establishment or restructuring of multinational business operations.
DAVID GARCÍA-OCHOA MAYORUría Menéndez Abogados, SLPDavid García-Ochoa Mayor is a lawyer in the Madrid office of Uría Menéndez. He joined the firm in 1991 and was based in the firm’s Barcelona office between 1997 and 1999. He currently heads up the Bureau Francophone in the Madrid office.
His practice focuses on corporate and commercial law, mergers and acquisitions, banking and securitisation.
He is regarded as a leading lawyer by the main international legal directories such as Best Lawyers in Spain, Chambers and Partners and PLC Which Lawyer? Yearbook.
MARCELLO GIOSCIAUghi e Nunziante Studio LegaleMarcello Gioscia is head of the firm’s banking and financial department and also specialises in M&A and privatisation. He obtained his LLM from Columbia University School of Law. He has been co-chairman of the International Bar Association Banking Committee and is a member of the Association Européenne de Droit Bancaire et Financier Council and a board member of the Unidroit Foundation. He is the author of several publications in Italian, English and French. Mr Gioscia has worked on a number of significant transactions, including representing Hermes Asset Management Europe in a €5 billion lawsuit by Parmalat; advising Banco Bilbao Vizcaya Argentaria on the tender offer for Banca Nazionale del Lavoro (BNL); representing JPMorgan in an equity derivatives transaction aimed at facilitating the tender offer for Telegate AG (listed in Germany); assisting Banco Bilbao Vizcaya as leader of the core shareholder group in the context of the privatisation of BNL; representing Banca Commerciale Italiana and Warburg Dillon Read; acting as global coordinators in the initial public offering of Autostrade as part of its privatisation; and advising the global coordinators in the context of the privatisation of Banca Commerciale Italiana.
JEFFREY GOLDENP.R.I.M.E. Finance FoundationJeffrey Golden is chairman of the P.R.I.M.E. Finance Foundation in The Hague, and a member of the Foundation’s panel of recognised international market experts in finance,
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a governor and honorary fellow of the London School of Economics and Political Science, where he has also been a visiting professor in the law department (2010–2013), and a member of chambers at 3 Hare Court. He recently retired from international law firm Allen & Overy LLP, which he joined as a partner in 1994 after 15 years with the leading Wall Street practice of Cravath, Swaine & Moore. He was the founding partner of Allen & Overy’s US law practice and senior partner in the firm’s global derivatives practice and has broad experience of a wide range of capital markets matters, including swaps and derivatives, international equity and debt offerings, US private placements and listings and mergers, acquisitions and joint ventures. He has acted extensively for the International Swaps and Derivatives Association, was a principal author of ISDA’s master agreements and has acted as an arbitrator and appeared as an expert witness in several high-profile derivatives cases.
Professor Golden has served on the Financial Stability Board’s market participants group for reforming interest rate benchmarks, the American Bar Association’s working group on the rule of law and economic development (chair), the Financial Markets Law Committee’s working groups on amicus briefs, emergency powers legislation and Enron v. TXU (chair), the Financial Law Panel’s working groups on agency dealings by fund managers and other intermediaries and building societies legislation, the Federal Trust’s working group on European securities regulation and the European Commission’s study group, the City of London joint working group and ISDA task forces on the legal aspects of monetary union. He is immediate past chair of the Society of English and American Lawyers (SEAL), a former chair of the American Bar Association’s Section of International Law, a member of the ABA House of Delegates, an elected member of the American Law Institute, a life fellow (co-chair, international) of the American Bar Foundation and a trustee of the International Bar Association Foundation.
NYDIA GUEVARA VMiranda & Amado AbogadosNydia Guevara V has been an associate of Miranda & Amado since 2006 and was promoted to partner in 2015. She graduated from Pontificia Universidad Católica del Perú in 2004 and from Columbia Law School in 2012 and worked with Sherman & Sterling LLP, New York in 2012–2013. Her practice is focused on financial transactions, capital markets and banking regulations. She has worked in many of the largest cross-border and local capital markets transactions made by Peruvian companies, including the mayor banking groups, advising the initial purchasers and the arrangement agents in the structuring of complex offerings of debt and equity securities, and she has also worked from the issuers’ side in several operations. Ms Guevara has participated in corporate bond transactions, structures involving subordinated debt issuances by financial institutions, leasing bonds, securitisations, the organisation of local investment funds managed either by local or international fund managers, other transactions and permanent advising related to capital markets, financial matters and private pension fund investments. The clients she has worked with include Citibank, Bank of America, JPMorgan, Deutsche Bank, Itau, BBVA, BCP, Credicorp Capital, ASBANC, among others. She is also involved in pro bono work for local and foreign institutions.
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LUIZ FELIPE FLEURY VAZ GUIMARÃESPinheiro Neto AdvogadosLuiz Felipe Fleury Vaz Guimarães is an associate in Pinheiro Neto’s corporate department, practising in the São Paulo office. He advises corporate and investment banking clients on securities offerings and public listings, mergers and acquisitions and corporate finance transactions generally.
ORLANDO VOGLER GUINÉ Vieira de Almeida & Associados, Sociedade de Advogados RLOrlando Vogler Guiné has a law and a business law master’s degree from the Coimbra Faculty of Law and a postgraduate degree in securities and business law from the Lisbon Faculty of Law. He joined Vieira de Almeida & Associados in 2006, after an internship with the Portuguese Securities Commission (CMVM). He has been actively involved in capital market transactions there since, including takeovers, liability managements, asset-backed securities, debt, hybrid and share issues, including IPOs and ABBs, bank recapitalisations and resolution, undertakings for collective investment, and derivatives, assisting some leading institutions in the financial and non-financial sectors. Besides his professional work he has been a guest lecturer on postgraduate and master’s courses, and at several conferences, and publishing works on securities and company law. He is a member of the Business Law Institute (IDET – Coimbra Faculty of Law) and of the Portuguese/Swiss Chamber of Commerce.
JACQUI HATFIELDReed SmithJacqui Hatfield is a member of the financial markets and regulatory group which sits within the financial industry group. She has a wealth of experience across the broad spectrum of the financial services regulated community. Her clients range from asset managers, brokers, banks, fund managers, fund platforms, exchanges, insurance companies, brokers, energy traders and corporate finance boutiques.
She provides regulatory advice to both the buy side and sell side and covers both retail and wholesale business. Typical work includes advising on issues relating to authorisation, structuring, energy trading, the regulation of derivatives, outsourcing, systems and controls, conduct of business, financial resources, market abuse, EU directives, promotion and distribution of investments and money laundering. Typical work also includes providing specialist regulatory advice on transactions within the financial services sector.
JANNI HILTUNENBorenius Attorneys LtdJanni advises clients on capital markets transactions and securities markets regulation, as well as on questions related to fund management. Prior to joining Borenius, Janni worked as an associate at another Finnish law firm and at the Ministry of Finance on AIFM, investment funds and banking regulation.
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OLIVIER HUBERTDe Pardieu Brocas MaffeiOlivier Hubert, partner, specialises in banking law and financial law, particularly on regulatory matters and structured finance transactions, either in a domestic or international context. His practice also extends to securitisation transactions, derivatives, aircraft and ship finance, acquisition lending and creation of specialised investment funds.
Admitted to the Paris Bar, he graduated from the Institute of Political Sciences (Sciences Po Paris, 1976) and holds an advanced degree (DEA) in business law from the University of Paris (1978).
He built his experience and practice as an international legal counsel in several international investment banks and joined De Pardieu Brocas Maffei as a partner in 2002. He is a member of the International Bar Association.
Mr Hubert is the author of several publications including Banking Regulation (French chapter – 2015 European Lawyer), The International Capital Markets Review (French chapter with Antoine Maffei – Law Business Research) and Insurance and Reinsurance Law & Regulation (French chapter – 2014 European Lawyer), and numerous articles on his areas of specialism.
ZDENĚK HUSTÁKBBH, advokátní kancelář, s.r.o.Zdeněk Husták is of counsel at BBH and focuses on financial markets, banking and insurance; he also advises banks, investment firms and asset managers on various topics, including new product design and regulatory and corporate governance issues. Mr Husták has extensive experience in the oversight of the financial markets. Between 2003 and 2006, he was a member of the Presidium of the Czech Securities Commission responsible for supervising and regulating investment services, the settlement system and the regulated markets and clearing houses. He advised the Ministry of Finance of the Czech Republic and led the project transposing MiFID into Czech law. During the Czech presidency of the Council of the European Union, Mr Husták led a working group of the EU Council Regulation on rating agencies and also participated in the Alternative Investment Funds Managers Directive (AIFMD) negotiations. He is the chairman of the ethics committee of the Czech Capital Market Association and is a member of the board of the Institute for Financial Markets at Masaryk University in Brno. Mr Husták often publishes on the topic of capital and finance markets, and he frequently lectures on these topics at domestic and foreign conferences, and seminars and at the University of Economics in Prague.
MICHAEL HYATTESidley Austin LLPMichael Hyatte is a partner in the Washington, DC office of Sidley Austin LLP. Michael joined the firm in 2001 after nearly 20 years with the SEC’s Division of Corporation Finance, including more than 10 years in its Office of Chief Counsel and five years in its Office of International Corporate Finance. At the SEC, his duties included interpreting regulatory and disclosure rules in advice to the Commission, the Division staff, and the public. The written record of his work for the SEC includes more than 500 no-
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action letters, the Trust Indenture Reform Act of 1990, Exchange Act rule 12h-5, and provisions of the Commodity Futures Modernization Act of 2000. Reflecting his wide range of experience, Michael regularly counsels on the Securities Act of 1933, Securities Exchange Act of 1934, Trust Indenture Act of 1939 and Sarbanes-Oxley Act. Michael is a graduate of the University of Chicago and the Indiana University School of Law and is admitted to practise in Illinois and the District of Columbia.
BEGÜM İNCEÇAMKolcuoğlu Demirkan Koçaklı Attorneys at LawBegüm İnceçam is a senior associate at Kolcuoğlu Demirkan Koçaklı and joined the firm in February 2008. Ms. İnceçam has extensive experience in a wide range of M&A transactions, private equity and capital markets. She has advised leading Turkish and foreign corporations, active in numerous sectors including retail, financial services, manufacturing, energy, electronics and pharmaceuticals. She recently represented Mediterra Capital in its successful acquisition of Söke Un and Arzum Elektrikli Ev Aletleri. In addition, she advised Turkven, in its acquisition of Doğtaş Mobilya and Kelebek Mobilya, as well as the merger of both companies. In addition, she advised Koç Holding in its sale of KoçNet to Vodafone. Besides her M&A transaction experience, she also has experience in restructurings and finance transactions involving leading banks, borrowers, financial institutions and funds, such as FMS Wertmanagement, LBWI and İş Private Equity.
MARINA KAHIANIGRATA Law FirmMarina Kahiani is a partner in GRATA banking and finance group. She joined GRATA Law Firm as a London representative office in September 2008, and relocated to Almaty head office in September 2009.
Ms Kahiani received her LLM from the London School of Economics and Political Science (LSE), her Kazakh master’s degree with distinction from the Kazakh Humanitarian Law University (specialisation – international and European law) and a bachelor’s degree with distinction from Kazakh State Law Academy (specialisation – civil and corporate law).
Marina Kahiani specialises in banking and finance transactions with a focus on capital markets.
KAMANGA WILBERT KAPINGAMkono & Co AdvocatesKamanga Wilbert Kapinga is a senior associate who specialises in telecommunications and information communication technology law. He also regularly advises clients on banking and finance transactions, labour law, mergers and acquisitions. He has wide expertise in advising international and national clients on setting up businesses in Tanzania, legal advisory services to international clients on regulatory compliance specifically in the banking industry, the telecoms industry, the oil and gas industry, and the mining industry.
Mr Kapinga is also licensed investment adviser (fund manager) at Vervet Global Limited. His qualifications include: the Securities Industry Certification Course, Capital
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Markets and Securities Authority of Tanzania (CMSA) 2013; Law School of Tanzania Legal Practical Course 2010–2011; King’s College London LLM with specialisation in Regulation and Technology 2008–2009; the University of Warwick LLB Bachelor of Laws (Honours) 2005–2008; and United World College of Southern Africa, Waterford Kamhlaba Mbabane, Swaziland, International Baccalaureate 2003–2004.
ABDULLAH AL KHARAFIInternational Counsel BureauAbdullah Al Kharafi is a senior counsel at the International Counsel Bureau (ICB). At ICB, he is a leading corporate commercial lawyer, advising numerous clients on various aspects of both commercial and civil law.
A seasoned professional, Mr Al Kharafi’s expertise spans a number of areas, such as capital markets, mergers and acquisitions, investments, corporate restructuring, joint ventures, project finance and dispute resolution. He advises both local and international clients on various projects and matters.
Mr Al Kharafi acts as a board secretary and general legal counsel for the board of directors of several companies, including the flagship EQUATE Petrochemical Company. He has advised on the first acquisition, with a value of US$238 million, to take place under the new rules of the newly promulgated Capital Market Authority Law, which became effective in 2010.
Mr Al Kharafi holds a bachelor of laws degree of from Kuwait University and in 2007 he completed a pre-MBA degree from Kuwait Maastricht Business School. In 2013, he obtained a postgraduate degree in Islamic finance from Kuwait University. He is a member of the Kuwait Bar Association.
VLADIMIR KHRENOVMonastyrsky, Zyuba, Stepanov & PartnersVladimir Khrenov is head of the derivatives and structured financial products practice at MZS & Partners. He was the principal drafter of the industry standard documentation for the Russian domestic OTC derivatives market, including the Model Terms of a Contract for Financial Derivative Transactions (the Model Terms) as well as product annexes thereto for foreign exchange derivatives, interest rate derivatives, equity derivatives and fixed income derivatives, as well as the collateral support annex. He was one of the three industry experts tasked with upgrading the industry documentation to ensure its eligibility for close-out netting under the new insolvency regime in Russia. More recently, Mr Khrenov has lead the MZS team drafting the commodity derivatives definitions, a protocol for foreign equity and fixed-income securities and the credit derivatives definitions for the Russian market.
Mr Khrenov advises some of the largest sell-side and buy-side clients – both Russian and international – on all aspects of the derivatives and structured products markets and transactions involving Russian law aspects or parties. He advised the National Settlement Depository in relation to setting up an OTC trade data repository. He also advised the Moscow International Currency Exchange on the pilot project of CCP clearing of single currency and cross-currency interest rate swaps.
Prior to joining MZS & Partners, Vladimir was head of the emerging markets derivatives practice in the legal department of the JPMorgan London branch and
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subsequently headed up the derivatives and structured products practice at the Moscow office of a magic circle law firm.
UMUT KOLCUOĞLUKolcuoğlu Demirkan Koçaklı Attorneys at LawDr Umut Kolcuoğlu is the managing partner of Kolcuoğlu Demirkan Attorneys at Law. He is admitted to both the Istanbul and New York Bar Associations. Dr Kolcuoğlu has diverse experience and comparative knowledge in a wide range of mergers and acquisitions, private equity, capital markets and finance. Dr Kolcuoğlu has represented leading international and local corporations, active in numerous sectors including financial services, energy, infrastructure, retail, electronics and pharmaceuticals. Among the clients he has advised are Turkven, RWE, Talanx, AIG, TPI Composites, Hyundai Mobis, Mediterra, Turcas, Koç Holding, Armani, Hugo Boss, Siemens, Goodrich (UTC Aerospace), Yamaha, Bedminster Capital, Doğuş SK Private Equity, X-Trade Brokers, İş Private Equity, Siemens and Finansinvest in transactions involving mergers and acquisitions, financing and capital markets. He recently advised Koç Holding in its sale of KoçNet to Vodafone and in the partial sale of Hedef Alliance Holding to Alliance Boots. In addition, Dr Kolcuoğlu recently advised, among various other transactions, in two major public company takeovers: the acquisition and restructuring of Kelebek Mobilya and the acquisition of Logo Yazılım as well as Netsis.
JUHA KOPONENBorenius Attorneys LtdJuha Koponen heads the firm’s capital markets team. He is a dual qualified (Finland and New York) transactional lawyer, who focuses his practice on capital markets, M&A and private equity transactions. He has advised issuers and underwriters on public and private offerings of equity and debt securities, including IPOs, high-yield debt offerings, convertible debt issuances and rights offerings. He has also advised bidders and target companies on tender offers.
Prior to joining Borenius, Juha was a partner with another major Finnish law firm. His prior experience includes working as an associate at Fried, Frank, Harris, Shriver & Jacobson LLP for three years (New York and London) and as a corporate legal counsel at Nokia Corporation focusing on securities regulation.
EARLA KAHLILA MIKHAILA C LANGITSyCip Salazar Hernandez & GatmaitanEarla Kahlila Mikhaila C Langit is a member of the firm’s special projects and banking, finance and securities groups. She was a member of the editorial board of the Philippine Law Journal (Volume 86), the academic law review published by the University of the Philippines College of Law.
ANTOINE MAFFEIDe Pardieu Brocas MaffeiAdmitted to the Paris Bar in 1989, Antoine Maffei holds a doctor of law degree from the State University of Ghent, Belgium and a master’s degree in comparative law from New York University Law School.
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He started his career in New York with Dewey Ballantine, before spending six years with the World Bank in Washington, DC. He then joined the Banque Française de Commerce Extérieur, first as head of the aircraft financing division and then as head of international legal operations. Mr Maffei specialises in banking and finance, including asset-based financial transactions, project finance and capital markets. He has acted as arbitrator in several international (ICC) arbitration proceedings. He has also been involved in major law reform projects.
He was a member of the drafting committee related to the Hague Securities Convention. He also acted as an expert on the EU Legal Certainty Project. He is a former chairman of the Capital Market Forum of the International Bar Association.
YOZUA MAKESMakes & Partners Law FirmYozua Makes is senior and managing partner at Makes & Partners Law Firm, a Jakarta-based leading law firm focusing on the areas of capital markets, mergers and acquisitions, corporate finance, banking and foreign investments. He has over 25 years of experience in these areas and has handled a broad range of complex cross-border commercial transactions.
Yozua is an alumnus of the Faculty of Law of the University of Indonesia, the University of California, Berkeley, Boalt Hall School of Law, the Asian Institute of Management and Harvard Business School. He recently obtained his doctorate degree in law from the University of Indonesia. Yozua is also actively involved in various professional and social organisations, and was the first appointed member of the National Committee for Corporate Governance and is a member of the board of experts of the Indonesian Association of Publicly Listed Companies. He is a registered legal consultant with the Indonesian Capital Market Supervisory Agency (Bapepam) and has formerly worked as special adviser to the Minister of Defence. He is a distinguished associate professor at the Faculty of Law at the University of Pelita Harapan and is also a professor at the Faculty of Law at the University of Indonesia. Yozua was a member of the expert staff of the State Ministry of Cooperatives and SMEs; the Steering Committee for Indonesian State Policy Guidelines and the Steering Committee for the merger of the Jakarta Stock Exchange and the Surabaya Stock Exchange. He is also on the board of trustees of World Vision Indonesia.
In 2013, Yozua’s paper, ‘Challenges and Opportunities for the Indonesian Securities Takeover Regulations: General Framework and Analysis from Dutch Law and Theoretical Perspectives’ was published by the University of Pennsylvania East Asia Law Review. Yozua was nominated for the Managing Partner of the Year award in, and recognised as Leading Lawyer for Capital Markets, Corporate M&A, IT, Telco & Media by, the 2014 and 2015 Asian Legal Business Law Awards. His law firm, Makes & Partners, was the winner of Indonesia National Law Firm of the Year Award by the 2014 IFLR Awards and Indonesia Corporate and Finance Law Firm by the 2014 International Alternative Investment Review (IAIR). Makes & Partners is also the Pan-Asian strategic alliance partner in Indonesia of top tier Singapore law firm, WongPartnership.
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CAMILO MARTÍNEZ BELTRÁNDLA Piper Martínez NeiraPartner Camilo Martínez focuses his professional practice in areas including corporate, capital markets, financial services and regulation. In recent years he has been involved in major transactions in the local capital markets.
Mr Martínez received his law degree from the Pontificia Universidad Javeriana in Bogotá and an LLM from Georgetown University. Who’s Who Legal recognised him as a leading lawyer in capital markets in Colombia. He is admitted as an advocate in Colombia and in the State of New York, and is fluent in Spanish and English.
FRANK MAUSENAllen & OveryFrank Mausen is a partner in the international capital markets department of Allen & Overy (Luxembourg) specialising in securities laws and capital markets regulation, including stock exchange listings. Clients include banks, as well as corporate, institutional, supranational and sovereign issuers that he advises on debt and equity transactions, and structured finance transactions including securitisation, structured products, covered bonds, IPOs, placements and buy-backs of securities, exchange offers, listing applications and ongoing obligations deriving from such listings. He has 15 years’ experience in these areas. Mr Mausen regularly holds conferences on securitisation and other capital markets topics in Luxembourg and abroad. Mr Mausen is a member of the Luxembourg for Finance Islamic financing working group and member of the capital markets commission of the Luxembourg banking association (the ABBL).
GREGORY J MAYEWAfridi & Angell Legal ConsultantsGregory J Mayew is a partner in Afridi & Angell’s Abu Dhabi office. Mr Mayew holds a JD from the University of Minnesota Law School, a master’s degree from the Massachusetts Institute of Technology and a BA from the University of Denver. He joined the firm in 2004 and is involved in the firm’s corporate, commercial, banking, capital markets and projects practices. Prior to joining the firm, Mr Mayew was an associate for five years with the law firm Dewey Ballantine in New York and London.
ANTON MALLING MIKKELSENGorrissen FederspielAnton Malling Mikkelsen is an attorney-at-law in Gorrissen Federspiel’s M&A and capital markets group and advises in all aspects of capital markets laws relevant to listed companies. Anton Malling Mikkelsen is regularly involved in Danish and international capital market transactions and has assisted in the recent IPOs of NNIT, ISS and Matas and a number of recent accelerated book buildings.
BIBITAYO MIMIKOG Elias & CoBibitayo Mimiko is an associate at G Elias & Co. She holds a Masters of Law degree from the London School of Economics. She is a member of the firm’s corporate practice group. Ms Mimiko’s experience covers bond offerings, structured notes and share acquisitions.
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ROY MONTAGUE-JONESReed SmithRoy Montague-Jones has wide experience of corporate and corporate finance transactions of all kinds. He advises publicly listed and private companies on domestic and cross-border mergers and acquisitions, IPOs and secondary issues, and joint ventures. The independent legal directory, The Legal 500, has described him as a ‘respected M&A practitioner’ with ‘deal-doing prowess’. Mr Montague-Jones has particular experience of advising clients in the energy, commodities, pharmaceuticals and media sectors. He is also co-chair of the firm’s India group, and regularly advises Indian corporates and financial institutions on corporate and financing transactions and fund raising in the international markets.
NOLLAIG MURPHYMaples and CalderNollaig Murphy is the head of the finance group in Maples and Calder’s Dublin office. Mr Murphy specialises in banking and capital markets, in particular in the areas of restructuring, structured and leveraged finance, securitisation and repackaging, syndicated lending and derivatives. Mr Murphy joined Maples and Calder in 2008. He was previously a senior partner with a large Irish law firm. Prior to that, he spent a number of years in London at Clifford Chance and Merrill Lynch. Mr Murphy is recommended in Chambers Europe, The Legal 500, Who’s Who Legal and IFLR1000.
KENNETH MWASI NZAGICapital Markets and Securities Authority of TanzaniaKenneth Mwasi Nzagi specialises in capital markets and securities laws in Tanzania. He has been involved in regulating, training, inspecting, supervising and licensing market intermediaries on issues relating to initial public officers, rights issues, cross-listing, inter alia. He has vast experience in advising domestic and international organisations and assisting with the establishment of collective investments, real estate investment trusts, licensing intermediaries and developing new regional legislations governing the capital markets industry in the East African Community.
Mr Nzagi is a chartered company secretary and administrator (UK) and has undergone certified training with the Securities Exchange Commission (United States), the London Stock Exchange (United Kingdom) and the International Organization of Securities Commissions (Spain) as well as being a technical committee member for the East African Community. His qualifications include: Law School of Tanzania Legal Practice Course 2010–2011; Institute of Chartered Secretaries and Administrators GradICSA 2009–2011; University of Portsmouth LLM (commercial law, corporate governance and financial administration) 2009–2011; Sheffield University (comparative law); Utrecht University (civil law) 2006; Bellerby’s College, UK; and Dar es Salaam Independent School.
REIKO OMACHIMorrison & Foerster LLP / Ito & MitomiReiko Omachi specialises in financial transactions involving banks, securities and insurance as well as structured finance, derivatives and general corporate transactions,
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and she has also advised on laws and regulations imposed upon banks and securities firms. From 2003 to 2006, she was seconded to the Civil Affairs Bureau of the Ministry of Justice of Japan and handled the amendment of Japan’s private international law. Ms Omachi graduated from the University of Tokyo in 1996 and qualified in 2000.
FRED ONUOBIAG Elias & CoFred Onuobia is the managing partner of G Elias & Co. He holds a Master of Law degree from University College London. His areas of practice include securities, banking and project finance law. He’s recognised as a leading lawyer by IFLR 1000, Chambers Global and Legal 500. Fred Onuobia advised Ecobank Transnational Incorporated, a pioneer bank holding company, on its then pioneering US$2.5 billion equity offering listed simultaneously on stock exchanges in three countries. He also advised Federal Mortgage Bank of Nigeria on its residential mortgage-backed securitisation transactions and acted for Asset Management Corporation of Nigeria, Nigeria’s debt resolution company, on its 3 trillion naira bond programme (the largest bond programme in Nigeria).
IAN PATERSONKing & Wood MallesonsIan Paterson is a senior partner at King & Wood Mallesons and one of Australia’s leading banking and capital markets lawyers. On 1 March 2012, Mallesons Stephen Jaques combined with Chinese law firm King & Wood to become Asia’s largest law firm, King & Wood Mallesons, and on 1 November 2013, King & Wood Mallesons joined forces with leading international firm SJ Berwin to become the only global law firm headquartered in the Asia-Pacific. Mr Paterson became a partner of legacy firm Mallesons Stephen Jaques in 1998 and has practised in both Melbourne and London. He specialises in banking and finance, with an emphasis on structured financing, structured capital markets, derivatives, financial sector regulatory issues and payment systems. He has acted on debt and hybrid capital markets issues in both domestic and international markets for banks, insurers and Australian and foreign corporations and authorities. Mr Paterson has been recognised as a leading capital markets lawyer by many legal directories, including by Chambers Global 2011–2015 and IFLR1000 2010–2015. He has also been named Best Lawyers’ 2013 and 2015 Melbourne structured finance ‘Lawyer of the Year’ and 2014 Melbourne debt capital markets ‘Lawyer of the Year’.
WINSTON PENHALLReed SmithWinston Penhall is a partner in Reed Smith’s private funds group. He advises clients on investment management law and regulation with an emphasis on alternative investment funds, their investment managers and investors. Winston advises managers on their commercial arrangements and provides ongoing support to investment managers alongside the Reed Smith regulatory team. Mr Penhall also focuses on advising UK pension schemes and international institutional investors, including sovereign wealth funds, on their managed account and fund investments across the spectrum of investment categories, including insurance wrapped products. He is a contributing author to a hedge fund practitioner text.
About the Authors
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RIKKE SCHIØTT PETERSENGorrissen FederspielRikke Schiøtt Petersen is a partner in Gorrissen Federspiel’s M&A and capital markets group. Rikke Schiøtt Petersen advises on all matters of capital markets laws and corporate laws which are relevant to listed companies, including general disclosure requirements, share buyback, directed issues and public offerings such as rights issues and IPOs. Her practice also covers private and public M&A including public tender offers and general corporate matters including incentive schemes and corporate governance. Recent capital markets transactions which Rikke Schiøtt Petersen has assisted with include the recent IPOs of NNIT, ISS and Matas. She is also currently a member of the Committee on Corporate Governance in Denmark. Rikke Schiøtt Petersen worked as a foreign associate with Cravath, Swaine & Moore in New York from 2001 to 2002.
SILVIA A PRETORIUSAfridi & Angell Legal ConsultantsSilvia A Pretorius is a senior associate in Afridi & Angell’s Abu Dhabi office. Ms Pretorius has an LLB and a BA from the University of Kwazulu-Natal, South Africa. Ms Pretorius joined the firm in 2008 and is involved in the firm’s corporate, commercial, banking and projects practices. Prior to joining the firm, Ms Pretorius worked for the Law Offices of Gebran Majdalany in Doha, Qatar.
GIANLUIGI PUGLIESEUghi e Nunziante Studio LegaleGianluigi Pugliese is a partner at Ughi e Nunziante in Rome. His areas of practice include M&A, banking and finance and capital markets. He has given lectures on M&A contracts and multilateral trading facilities for the master of business law course at LUISS University in Rome. Mr Pugliese has worked on a number of significant transactions including advising Banco Bilbao Vizcaya Argentaria – BBVA in delisting from the Italian stock exchange; advising BBVA in the tender offer for BNL; advising Spanish company Logista SA in the acquisition of Italian tobacco distribution company Etinera SpA; advising various foreign and Italian banks on financing transactions, including the securitisation of portfolio receivables; advising the Italian Treasury on the bought deal in 2003 of 6.6 per cent of its ENEL shares; and advising JPMorgan on an equity derivatives transaction aimed at facilitating the tender offer for Telegate AG.
JOHN-PAUL RICERussell McVeaghJohn-Paul Rice is a specialist in corporate and acquisition finance, debt capital markets, derivatives and financial services regulation. Prior to joining Russell McVeagh, he worked in banking and finance teams at Allens in Melbourne, Linklaters in London and Herbert Smith Freehills in Perth.
RICARDO SIMÕES RUSSOPinheiro Neto AdvogadosRicardo Simões Russo is a partner at Pinheiro Neto Advogados’ corporate department, practising in the São Paulo office. He advises corporate and investment banking clients
About the Authors
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on public and private financing transactions, securities offerings and listings, and M&A transactions, with particular experience in financing and restructuring transactions. He also provides advice on corporate governance matters and corporate and securities law and regulation. Ricardo is acknowledged as having built a prominent reputation in both the DCM and private financing markets and has been recognised as a leading corporate finance lawyer by a number of industry publications.
KAI A SCHAFFELHUBERAllen & Overy LLPKai Schaffelhuber is a partner at Allen & Overy LLP. He has wide and general experience advising on a range of international and national capital markets transactions, with an emphasis on regulatory aspects, structured products and derivative solutions (institutional, wholesale and retail), restructuring and insolvency, and bank M&A matters. He has extensive experience in litigation and in the management and effective resolution of disputes arising in these areas.
MARTIJN SCHOONEWILLELoyens & Loeff NVMartijn Schoonewille, senior associate, is a member of the banking and finance practice group. He specialises in the law and regulations regarding supervision of financial markets and securities law. Mr Schoonewille advises companies, banks, investment firms, insurance companies and investors on financial regulatory matters and counsels these parties in a variety of public, and private, equity and debt offerings. In 2008, he was seconded to an investment bank and from 2010 to 2012 he was based in Loyens & Loeff’s London office.
Mr Schoonewille lectures frequently on financial regulatory topics at prime Dutch universities and is an editorial member of the financial law journal Rechtspraak Financieel Recht.
TOMÁŠ SEDLÁČEKBBH, advokátní kancelář, s.r.o.Tomáš Sedláček is a partner at BBH focusing on banking and finance, structured finance (including aircraft finance), capital markets and commercial law (including M&A and corporate law). Mr Sedláček provides professional counsel related to securities and financial and commodity derivatives, as well as preparing and negotiating the associated legal documentation. Mr Sedláček is also a member of the ISDA Central and Eastern Europe Committee. The drafting and negotiating of standard loan facilities (bilateral and syndicated) and alternative financing, and debt instrument documentation (such as credit-linked notes, asset-linked notes, leverage financing, asset-backed financing, etc.) constitute a significant part of his work. He lectures at the Faculty of Law at Charles University and has written numberous articles on the areas of law in which he specialises. Mr Sedláček has acted as legal counsel on a wide range of projects and transactions, including loan facilities, structured finance transactions, debt and share issues and the purchase and subsequent financing of a number of aircraft. Among the most signifiant transactions on which he has advised are the first-ever rated securitisation in Central and Eastern Europe, the largest private bond offering listed on the Prague Stock Exchange, and
About the Authors
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advising clients on the development and practical implementation of a new structured financial product line at a Czech bank.
NICK STAINTHORPEReed SmithNick Stainthorpe specialises in complex finance, with a focus on derivatives (including structured equity and hedging interest rate and currency risk) and structured finance (including secured corporate bonds, structured real estate finance and securitisation). Early in his career he was seconded to a US investment bank where he advised on equity and fund-linked derivatives transactions. He participates actively in industry bodies and speaks regularly at events on matters such as the implications of regulation on the finance sector.
JOAN MAE S TOSyCip Salazar Hernandez & GatmaitanJoan Mae S To is a member of the firm’s special projects and banking, finance and securities groups. Her practice areas include energy, investments, mergers and acquisitions, and banking, finance and securities.
Some of Ms To’s significant transactions include the US$1.043 billion acquisition by a Swiss international food and beverage company of a leading Philippine infant formula manufacturer; a US$350 million syndicated loan to the Philippine’s largest bank; and providing advice to various prospective investors and financing institutions on the corporate structuring and legal and regulatory framework for the energy sector, including renewable energy.
VIKTOR TOKUSHEVTokushev and PartnersViktor Tokushev is the founder of Tokushev and Partners. He is head of the firm’s capital markets and financial services practice. He advises on various IPOs, bond issues and admission to trading of financial instruments including first dual listing of Bulgarian public companies. His clients include investment intermediaries, brokers, fund managers and public companies.
Viktor Tokushev is assistant professor in commercial law at the Law Faculty of Sofia University. He acquired his doctorate degree in 2012 with a thesis on special purpose investment companies, which was published in the same year. From 2012 he has been a lecturer on capital markets law at Sofia University.
VERONICA UMAÑADLA Piper Martínez NeiraAssociate Veronica Umaña focuses her professional practice on the areas of capital markets and mergers and acquisitions. Veronica received her law degree from the Andes University in Bogotá and she has completed a postgraduate programme in financial regulation from the Andes University in Bogotá and a specialisation in the study of Western institutions. She also took advanced studies in political, economic and social sciences at the University of Notre Dame in the United States in which she graduated cum laude. She is fluent in Spanish, English and French.
About the Authors
481
LAURA VAELITALOBorenius Attorneys LLPLaura advises clients on capital markets and general corporate law related questions. Prior to joining Borenius LLP in New York, Laura worked as an associate at a major international law firm in Helsinki.
In addition to her law degree from University of Lapland, Laura holds an LLM in corporate law from New York University School of Law. She has also studied law at Universiteit Utrecht in the Netherlands.
DANIEL PEDRO VALCARCE FERNÁNDEZUría Menéndez Abogados, SLPDaniel Pedro Valcarce Fernández is a lawyer in the Madrid office of Uría Menéndez. He joined the firm in 2011. His practice focuses on corporate and commercial law, mergers and acquisitions, banking and securitisation.
CLINTON VAN LOGGERENBERGENSafricaClinton van Loggerenberg is a director at ENSafrica in the banking and finance department. He specialises in banking, derivatives, capital markets, finance, structured finance, collective investment schemes, financial markets, exchange control and regulatory work.
He has acted for a number of local and international banks in establishing operations in South Africa, as well as bank mergers and acquisitions. He was lead South African counsel when Barclays Plc acquired a majority stake in Absa Capital Limited, at the time, the largest foreign direct investment into South Africa (deal value at the time was approximately 33 billion rand).
Clinton assisted the Banking Association of South Africa with the drafting of the current Section 35B of the Insolvency Act, which ensured that post-insolvency netting may take place in respect of certain derivatives contracts.
Clinton regularly assists financial institutions with the raising of finance and the granting of loans. His practice experience includes advising dealers, arrangers and issuers (including BMW on its 2.5 billion rand bond issue and Sasol on its US$1 billion bond issue), on DMTN Programmes and Securitisations, Euro Note Programmes, as well as advising various banks on capital-qualifying loans including Sasfin Bank Limited concerning its Tier 2 capital-qualifying loan from the International Finance Corporation.
He is the author of a number of published Annexures for the International Swaps and Derivatives Association, and was the original author of the Credit Support Documentation opinion for South Africa. He has also co-authored the South African Legislation Guide for South Africa in the IFLR1000 2010 Guide to the World’s Leading Advisors. He has acted as local counsel to the ISDA, the International Capital Markets Association and the Securities Lending and Repo Committee.
Clinton is recognised as a leading lawyer by numerous reputable international agencies and their publications, including Chambers and Partners, IFLR1000, Best Lawyers, Legal 500 and Who’s Who Legal.
About the Authors
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MARIËTTE VAN ’T WESTEINDELoyens & Loeff NVMariëtte van ’t Westeinde, partner, is a member of the banking and finance practice group and leads the securitisation team, which performs the most complex work in this field. She has broad experience in all kinds of specialised financial transactions, ranging from asset finance to public and private debt issues, derivatives and asset management, and, in particular, on securitisations and structured finance. She has held various positions ranging from in-house legal counsel to attorney. Currently she also holds the position of deputy judge at the Court of Appeals.
Ms Van ’t Westeinde has published on banking law-related issues and is co-author of a book on securitisation in the Netherlands. She is considered an authority on securitisation in the Netherlands and the securitisation team of Loyens & Loeff is one of the market leaders in the domestic market.
STEPHEN VON SCHIRNDINGENSafricaStephen von Schirnding is a director at ENSafrica in the banking and finance department. He specialises in debt capital markets (including securitisation), general debt finance, private equity, as well as banking and securities law.
Stephen’s experience includes advising arrangers, issuers and investors on DMTN, securitisation and other asset-backed note structures, including all the major South African banks, the National Treasury, parastatals and listed and unlisted companies, both on and offshore.
Stephen is recognised as a leading lawyer by Chambers and Partners, IFLR 1000 and Best Lawyers.
HENRI WAGNERAllen & OveryHenri Wagner is the managing partner of Allen & Overy (Luxembourg) and the head of the banking and capital markets department. He has more than 25 years’ experience in these areas. He specialises in capital markets (including issues of debt and equity securities, securitisations and repackagings, derivatives and structured finance) and international banking work (including syndicated lending, investment grade and leveraged acquisition finance, debt restructuring and financial services regulatory matters). Mr Wagner regularly publishes articles on banking and finance issues and represents Luxembourg on the advisory board of the Capital Markets Law Journal (published by Oxford University Press). He is a member of the consultative working group of the Corporate Finance Standing Committee of the European Securities and Markets Authority, and of specialised committees of the CSSF, the ABBL and of the Ministry of Finance.
MARK WALSHSidley Austin LLPMark Walsh is a partner in the London office of Sidley Austin LLP where he co-heads the capital markets group and leads the US and New York law capital markets team. Mark’s practice includes the representation of issuers and investment banks on all categories of debt, equity and equity-linked capital markets transactions, including IPOs, ADRs/
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GDRs, ordinary and preference share offerings, regulatory capital offerings for European banks and other securities offerings. These include SEC registered and Rule 144A offerings in the US markets, as well as Prospectus Directive-compliant and Regulation S offerings and listings in the UK, Ireland, Luxembourg and other EU markets. He also works on M&A and other corporate and partnership transactions, corporate governance and compliance (particularly for financial institutions), as well as advice on capital markets products subject to dispute or restructuring. He has worked with sovereign and quasi-sovereign issuers, as well as with companies from a broad range of industries. Mark joined the firm in 1986 and practised in the New York and Hong Kong offices before moving to London. He is qualified to practise New York, English and Hong Kong law, and is a non-practising member of the Irish bar.
AKIHIRO WANIMorrison & Foerster LLP / Ito & MitomiAkihiro Wani has almost 30 years’ experience in the capital markets arena and is widely renowned as an expert in the banking sector. He has acted for major financial institutions on financial regulations and cutting-edge derivatives transactions, advised on the establishment of head and branch offices of financial institutions, and acted on various matters involving cross-border financial trading, securities, insurance and general corporate transactions. Mr Wani is a professor at Sophia University Law School, a counsel for the International Swaps and Derivatives Association in Japan, and a financial expert at the P.R.I.M.E. Finance Foundation.
XUSHENG YANGFenXun PartnersXusheng Yang is a founding partner of FenXun Partners and co-head of the capital markets practice group at FenXun Partners. He specialises in securitisation (both MBS and CDO) and capital markets (representing issuers, selling shareholders and underwriters in initial public offerings and private placements in forms 144A and Regulation S offerings). Before co-founding FenXun Partners, Mr Yang was a partner with King & Wood (Beijing office). He also practised US securities laws with Shearman & Sterling in New York and Allen & Overy in Hong Kong for over five years, and worked as a staff attorney with the China Securities Regulatory Commission from 1992 to 1995. Mr Yang is a law school graduate of Jilin University. He has also received LLM degrees from the University of British Columbia and New York University.
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Appendix 2
CONTRIBUTING LAW FIRMS’ CONTACT DETAILS
AFRIDI & ANGELL LEGAL CONSULTANTSThe Towers at The Trade CenterWest Tower, Level 12Abu Dhabi MallAbu DhabiPO Box 3961United Arab EmiratesTel: +971 2 627 5134Fax: +971 2 627 [email protected]
ALLEN & OVERY LLPHaus am OpernTurmBockenheimer Landstraße 260306 Frankfurt am MainGermanyTel: +49 69 2648 5000Fax: +49 69 2648 [email protected]
33 avenue JF Kennedy1855 LuxembourgTel: +352 44 44 55 1Fax: +352 44 44 55 [email protected]@allenovery.com
www.allenovery.com
BBH, ADVOKÁTNÍ KANCELÁŘ, S.R.O.Klimentská 1207/10110 00 PragueCzech RepublicTel: +420 234 091 355Fax: +420 234 091 [email protected]@bbh.czwww.bbh.eu
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BHARUCHA & PARTNERSHague Building9, S.S Ram Gulam MargBallard EstateMumbai 400 001IndiaTel: +91 22 6132 3900Fax: +91 22 6633 [email protected]
BORENIUS ATTORNEYS LTDEteläesplanadi 200130 HelsinkiFinlandTel: +358 20 713 33Fax: +358 20 713 [email protected]@[email protected]
DE PARDIEU BROCAS MAFFEI57 Avenue d’IénaCS 1161075773 Paris Cedex 16FranceTel: +33 1 53 57 71 71Fax: +33 1 53 57 71 [email protected]
DLA PIPER MARTÍNEZ NEIRACarrera 7 No. 71-21 Torre B Oficina 602BogotáColombiaTel: +57 1 317 4720Fax: +57 1 317 [email protected]@dlapipermna.comwww.mna.com.co
ENSAFRICA1 North Wharf SquareLoop StreetCape TownSouth AfricaTel: +27 21 410 2500Fax: +27 21 410 [email protected]
150 West StreetSandownSandtonJohannesburgSouth AfricaTel: +27 11 269 7600Fax: +27 10 596 [email protected]
www.ensafrica.com
FENXUN PARTNERSSuite 1008, 10/FChina World Office 2No. 1 Jianguomenwai AvenueBeijing 100004ChinaTel: +86 10 6505 9190Fax: +86 10 6505 [email protected]
G ELIAS & CO6 Broad StreetLagosNigeriaTel: +234 1 4607890 2806970Fax: +234 1 [email protected]@yahoo.comwww.gelias.com
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GORRISSEN FEDERSPIELH.C. Andersens Boulevard 121553 Copenhagen VDenmarkTel: +45 33 41 41 41Fax: +45 33 41 41 [email protected]@[email protected]@gorrissenfederspiel.comwww.gorrissenfederspiel.com
GRATA LAW FIRM104, M. Ospanov Str.Almaty 050020KazakhstanTel: +7 727 2 445 777Fax: +7 727 2 445 [email protected]@gratanet.comwww.gratanet.com
HOGAN LOVELLS BSTL, SCAv. Ricardo Margáin 444Torre Norte, Mezzanine ‘A’Valle del CampestreSan Pedro Garza García, N.L. 66265MexicoTel: +52 81 8220 1500
Paseo de los Tamarindos 150 PBBosques de las Lomas05120 Mexico CityMexicoTel: +52 55 5091 0000
Fax: +52 81 8220 [email protected]@hoganlovells.comwww.hoganlovells.com
INTERNATIONAL COUNSEL BUREAUDasman Commercial ComplexBlock 3 – 6th, 8th and 10th FloorsAl SharqPO Box 20941Safat 13070KuwaitTel: +965 2244 0191Fax: +965 2246 [email protected]@icbkuwait.com.kw www.icbkuwait.com.kw
KING & WOOD MALLESONSLevel 50, Bourke Place600 Bourke StreetMelbourneVictoria 3000AustraliaTel: +61 3 9643 4000Fax: +61 3 9643 [email protected]
KOLCUOĞLU DEMIRKAN KOÇAKLI ATTORNEYS AT LAWSağlam Fikir SokakKelebek Çıkmazı, No. 534394 EsentepeIstanbulTurkeyTel: +90 212 355 99 00Fax: +90 212 355 99 [email protected]@[email protected]
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LOYENS & LOEFF NVFred. Roeskestraat 1001076 ED AmsterdamNetherlandsTel: +31 20 578 57 85Fax: +31 20 578 58 [email protected]@loyensloeff.comwww.loyensloeff.com
MAKES & PARTNERS LAW FIRMMenara Batavia, 7th FloorJl. KH. Mas Mansyur Kav. 126Jakarta 10220IndonesiaTel: +62 21 574 7181Fax: +62 21 574 [email protected]
MAPLES AND CALDER75 St Stephen’s GreenDublin 2IrelandTel: +353 1 619 2000Fax +353 1 619 [email protected]
MIRANDA & AMADO ABOGADOSAv Larco 1301, 20th FloorTorre Parque MarMirafloresLima 18PeruTel: +51 1 610 4730 / 4791Fax: +51 1 610 [email protected]@mafirma.com.pewww.mafirma.com.pe
MKONO & CO ADVOCATES8th floor, Exim TowerGhana AvenuePO Box 4369Dar es SalaamTanzaniaTel: +255 22 211 8789 91 / 219 4200 / 211 4664Fax: +255 22 211 3247 / 211 [email protected]
MONASTYRSKY, ZYUBA, STEPANOV & PARTNERS3/1 Novinsky BoulevardMoscow 121099RussiaTel: +7 495 231 4222Fax: +7 495 231 [email protected]/en
MORRISON & FOERSTER LLP / ITO & MITOMIShin-Marunouchi Building, 29th Floor 5-1 Marunouchi 1-chomeChiyoda-kuTokyo 100-6529JapanTel: +81 3 3214 6522Fax: +81 3 3214 [email protected]@mofo.comwww.mofo.com
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PINHEIRO NETO ADVOGADOSRua Hungria1100 São PauloBrazilTel: +55 11 3247 8720Fax: +55 11 3247 [email protected]@[email protected]
P.R.I.M.E. FINANCE FOUNDATIONChurchillplein 5ePO Box 167102500 BS The HagueNetherlandsTel: +31 70 3028165secretary@primefinancedisputes.orgwww.primefinancedisputes.org
REED SMITHThe Broadgate Tower20 Primrose StreetLondon EC2A 2RSUnited KingdomTel: +44 20 3116 3000Fax: +44 20 3116 [email protected]@[email protected]@[email protected]@[email protected]
RUSSELL McVEAGHLevel 30Vero Centre48 Shortland StreetAuckland 1140New ZealandTel: +64 9 367 8000Fax: +64 9 367 [email protected]@russellmcveagh.comwww.russellmcveagh.com
SIDLEY AUSTIN LLP787 Seventh AvenueNew York, NY 10019United StatesTel: +1 212 839 5300Fax: +1 212 839 [email protected]@sidley.comwww.sidley.com
SYCIP SALAZAR HERNANDEZ & GATMAITANSyCipLaw Center105 Paseo de RoxasMakati City 1226PhilippinesTel: +632 982 3500 / 3600 / 3700Fax: +632 817 3145 / [email protected]@syciplaw.com [email protected]
Contact Details
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TOKUSHEV AND PARTNERS7a Aksakov str., floor 41000 SofiaBulgariaTel: +359 2 9801251Fax: +359 2 [email protected]
UGHI E NUNZIANTE STUDIO LEGALEVia Venti Settembre 100187 RomeItalyTel: +39 06 47 48 31Fax: +39 06 48 70 [email protected]@unlaw.itwww.unlaw.it
URÍA MENÉNDEZ ABOGADOS, SLPPríncipe de Vergara, 187Plaza de Rodrigo Uría28002 MadridSpainTel: +34 91 586 0400Fax: +34 91 586 [email protected]@uria.comwww.uria.com
VIEIRA DE ALMEIDA & ASSOCIADOS, SOCIEDADE DE ADVOGADOS RLAv. Duarte Pacheco 261070-110 LisbonPortugalTel: +351 21 311 3400Fax: +351 21 311 [email protected]@vda.ptwww.vda.pt
