In our Alert of this time last year,1 we predicted that the broad powers given under the Banking Recovery and Resolution Directive2 (the ‘BRRD’) to resolution authorities3 in respect of credit institutions and investment firms would give creditors cause for concern. In the eight months since the implementation of the BRRD by various of the European Member States, this prediction has already been borne out.
In this Alert we take a brief look at some of the notable examples of how this has been playing out for creditors in the context of:
- The Portuguese ‘good bank’ Novo Banco SA (‘Novo Banco’);
- The Greek National Bank of Greece SA (‘NBG’); and
- The Austrian ‘bad bank’ Heta Resolution AG (‘Heta’).
We also briefly look at consequential amendments to the Directive on the Reorganisation and Winding Up of Credit Institutions 2001/24/EC (the ‘WUD’) and an interesting decision concerning the WUD.
The English court has recently ruled4 on the scope of one of the resolution tools (the transfer of assets
- ‘The Banking Recovery and Resolution Directive — Should Creditors Be Concerned?’.
- Directive 2014/59/EU of the European Parliament and of the Council of May 15, 2014 establishing a framework for the recovery and resolution of credit institutions and investment firms. For this Alert, it will serve to remember that the BRRD establishes a framework for the recovery and resolution of credit institutions and investment firms and in that context provides local resolution authorities with far-reaching resolution tools.
- Key resolution tools include asset sales, creation of a bridge institution, asset separation tool (e.g. ‘good bank’/’bad bank’) and bail-in tool [Article 37].
- Goldman Sachs International v. Novo Banco SA  EWHC 2371 (Comm).
- In this case, the particular resolution tool was the transfer of an asset under Article 66(1) (the ‘transfer of assets and liabilities tool’).
- Article 66(6)(a) provides that each Member State must determine in accordance with the law of the home Member State the right for shareholders, creditors and third parties to challenge a transfer of the ‘assets and liabilities’ referred to in Article 66(1). This means that the Member States must give effect to a transfer of shares and other instruments of ownership, or assets, rights or liabilities located in that Member State but subject to the authority of the resolution authority of another Member State.
the BRRD. The English court has ruled for a narrower construction than the local resolution authority of Portugal7 evidently attributed to it.
Here, the question was whether a ‘ruling’ issued by the Bank of Portugal, as local resolution authority, in December 2014 (the ‘December ruling’) declaring that a transfer of an English law-governed loan (the ‘Loan’) to Novo Banco duly authorised by it in August 2014 (the ‘August transfer’) had not actually been so authorised, was itself properly to be characterised as an exercise of resolution tools within the meaning of BRRD, and was therefore binding on the English court under the mutual recognition provisions set out in regulation 5(1) of the Credit Institutions (Reorganisation and Winding up) Regulations 2004 UK (‘CIWUD’).8
The December ruling recited in a board resolution of the Bank of Portugal the reasons why the transfer could not be allowed and then resolved as follows:
Pursuant to the provisions of Art 145G(1) and Art 145-H(2)(c) of the RGICSF and based on the grounds contained in Doc No NTI/2014/00003441, the Board of Directors of the Bank of Portugal resolves the following: (a) the liability of BES to Oak Finance [the lender] resulting from [the Loan] was not transferred to Novo Banco.
The English court held that the Bank of Portugal’s creation in August 2014 of Novo Banco (as ‘good bank’) and the transfer of certain liabilities of the distressed Banco Espirito Santo (‘BES’) (as ‘bad bank’) to it for the purpose of facilitating the continuation of certain parts of BES’s business was a ‘resolution tool’ within the framework of the BRRD. It further held that one of the liabilities transferred to Novo Banco in that resolution measure included the Loan (under which BES, in its capacity as the borrower, had submitted to the jurisdiction of the English courts). It was in respect of Novo Banco’s obligations under the Loan that the English court was being asked to exercise jurisdiction.
The English court held that the August resolution was a ‘transfer’ and therefore a resolution tool which must be given effect by Article 66 of the BRRD (and which in turn had effect in the UK pursuant to Regulation 5 of CIWUD). In contrast, the English court held that Bank of Portugal, as the local resolution authority, did not purport to make a transfer in the December ruling. Rather it purported to be a ruling that there had been no transfer (i.e. a declaration of what in the view of the Bank of Portugal had already happened) [para 58]. Further, the English court held that, regardless of what status the decision might have in Portuguese law (including whether or not it was prima facie binding on the parties to whom it was addressed), it had no status under the BRRD and therefore had no effect under English law. In this context, the English court further said it is not the case that any action taken by a local resolution authority which is effective as a matter of domestic law of its home state is to be recognised in all other Member States. It is only if the action falls within the requirements for recognition — in this case, within the scope of Article 66(6) of the BRRD — that it has such effect.
- The Bank of Portugal is the resolution authority for Portugal.
- CIWUD is the UK implementation of the WUD. CIWUD provides that ‘reorganisation measures’ duly taken in other Member States have effect in the United Kingdom as if they were part of the general law of insolvency of the United Kingdom [Article 5 and Schedule 3]. ‘Resolution tools’ (including the transfer of assets and liabilities tool) under the BRRD are now included as ‘reorganisation measures’ within the meaning of CIWUD.
The English court noted that, had the Bank of Portugal wished to effect a re-transfer of the Loan, it could have done so within the re-transfer regulations under Article 40 of the BRRD. The English court therefore held that the August transfer to Novo Banco meant that the English court had jurisdiction to determine disputes involving Novo Banco as borrower under the Loan.
It will serve resolution authorities well to bear this decision in mind when purporting to exercise their powers in a manner that avails itself of the resolution tools benefiting from mutual recognition.
It has recently been reported that a group of senior NBG bondholders have written to the relevant Greek and European authorities declaring that they would consider providing recapitalization for NBG on appropriate terms if required to avoid incurring losses and that they intend to ensure that their rights under all applicable laws are fully respected.
This letter was no doubt prompted in part by fear of the local Greek resolution authorities wielding their powers under the proposed Greek implementation of the BRRD.9 From a legal perspective, the letter serves at least two purposes.
First, it endeavours to make the most out of the few obvious protections creditors have under the BRRD. By expressing a willingness to consider recapitalising NBG, the bondholders are putting a spotlight on one of the conditions to the resolution authorities’ exercise of their powers. Before exercising a resolution measure, resolution authorities are required to form the determination that ‘there is no reasonable prospect that an alternative private sector measure would prevent the failure of the institution’. Obviously, if the authorities know in advance that there might be a deal to be struck but do not make efforts to explore that option, there is an argument that the conditions for exercise are not met, and therefore that the resolution measures were exercised inappropriately.
Second, it attempts to gain a pre-emptive voice for the bondholders and in doing so neutralise some of the more malignant aspects of the BRRD for creditors. As we highlighted in our 2014 Alert, once the resolution authorities exercise their rights, creditors will inevitably be on the back foot, facing an up-hill battle (both in terms of obtaining disclosure and establishing evidence as to valuation) to challenge it. By inviting the authorities to enter into dialogue in advance of the exercise of any resolution measure, the bondholders thereby seek to avoid this disadvantage.
The letter therefore serves as a reminder, as well as a veiled threat, to the authorities to pay due regard to their obligations before exercising any resolution tools.
The Moratorium on Austrian and German Law-Governed Bonds
Earlier this year we reported10 on the exercise of powers by the FMA (the resolution authority for the
- As yet there has been no implementation by the Greek government of the BRRD, but it is expected to be imminent given that implementation was a condition of the recent bailout by the European authorities.
- ‘The Austrian ‘Bad Bank’ Heta Asset Resolution AG: A Test Case for the 2014 Banking Recovery and Resolution Directive?’.
- Osterreichische FinanzMarktAufsichtsbehorde (the ‘FMA’).
Austrian and German law-governed bonds of Heta (the ‘Moratorium Bonds’).13 Heta itself was created under BaSAG as a ‘bad bank’ to take over certain liabilities, and run off certain assets, of the troubled Hypo Alpe Adria International AG. In that Alert we queried whether powers granted to local resolution authorities such as the FMA were intended to extend to institutions such as Heta which are in run-off. That question has not yet authoritatively been answered, although we understand that the Commercial Court in Vienna has recently referred the question to the Austrian Constitutional Court. Further actions by those and other bondholders are expected.
The Austrian Constitutional Court Decision on Austrian Law-Governed Subordinated Bonds
The decision of the Austrian constitutional court published on 28 July 2015 in favour of certain other holders of subordinated bonds of Heta (the ‘Subordinated Bonds’) will undoubtedly be of interest to the holders of the Moratorium Bonds. The Austrian court held that the wipe out of EUR890 million of Subordinated Bonds by means of Austrian federal legislation (the Hypo Reorganisation Act 2014 (‘HaaSanG’)) violated Austrian constitutional law, and has ordered HaaSanG to be repealed in its entirety. The Austrian court said that the legislation, in cancelling those Subordinated Bonds that matured on or before 30 June 2019 but leaving intact those that matured thereafter, was based on an unjustifiably arbitrary cut-off maturity date and that this unequal treatment of instruments of the same class violated the constitutional right to the protection of property. For similar reasons, the Austrian court also ordered the reinstatement of the State of Carinthia guarantee (the ‘Guarantee’) which had been granted in favour of the Subordinated Bonds and which HaaSanG had deemed to have expired. The Austrian court stated that ‘a provision resulting in the expiry of the guarantee, which exclusively applies to the group of junior creditors, while the guarantees for other creditors remain operational, is neither factually justified nor proportionate’. In addition, the Austrian court held that ‘legal guarantee statements issued by a federal province must not be rendered completely invalid retroactively through a single measure imposed by the law’.
Whilst this decision is undoubtedly a positive step for the holders of the Subordinated Bonds, it will at the same time be frustrating to them that the FMA has since ordered the Subordinated Bonds also to be subjected to the moratorium.
Implications for the Holders of the Moratorium Bonds
The extent to which this decision will provide helpful arguments for the holders of the Moratorium Bonds seeking to challenge the moratorium remains to be seen given that the Austrian court’s decision was limited to principles of Austrian constitutional law only. Given that the moratorium affected foreign law as well as Austrian law governed instruments, the legal issues surrounding its legality will involve analysis not only of Austrian constitutional law but also of the scope of the relatively untested BRRD. But for those governments of Member States that may well have had a tendency to lose sight of their own constitutional or administrative law limitations, perhaps in their efforts to ensure compliance with (and/or take advantage of) the BRRD and other European measures, it will remind them of the fact that
- BaSAG is an acronym for Bundesgesetzes uber die Sanierung und Abwicklung von Banken, BGBI I Nr 98/2014 (‘BaSAG’), the Austrian government’s legislation implementing the BRRD and establishing a framework for the recovery and resolution of credit institutions and investment firms. The use of BaSAG (and the invocation of CIWUD) as opposed to reliance on purely Austrian federal law powers was necessary to bind the foreign law instruments. Absent such European powers, the Austrian legislature has no authority to bind instruments other than those governed by Austrian law.
- The moratorium is scheduled to expire in May 2016. We understand this date was chosen as it was deemed to give the Austrian authorities sufficient time to decide on a permanent restructuring solution. The government may well decide to extend it again.
the two systems operate in parallel, not in lieu of one or the other. Bondholders of financial institutions therefore have at least a double layer of attack.
Implications for Holders of Bonds Issued by Austrian Financial Institutions Generally
On the face of the decision, there are obvious limits to the comfort that holders of instruments issued by Austrian financial institutions can take from the Austrian constitutional perspective. For example, the Austrian court’s criticism of the differential treatment to bonds otherwise of the same class implies that the court may have had less concern as to the constitutionality of the measure had all the Subordinated Bonds been devalued proportionately. Likewise, as regards the Guarantee, the decision suggests that a partial (as opposed to total) revocation and/or a revocation that applied to the senior creditors as well as the junior creditors proportionately may have been constitutionally less objectionable. Further, the statement that the termination of the Guarantee was not ‘factually’ justified suggests that the Austrian court will give due weight to valuation issues (although it is not clear what the point of reference for valuation is). Insofar as such an inference can be drawn from the judgment, senior and junior creditors of Austrian financial institutions alike should be concerned. The Austrian government may again attempt to devalue the instruments, but this time heeding the Austrian court’s guidelines in doing so.
Following the BRRD, certain loose ends of the WUD (as implemented in the United Kingdom by CIWUD) have now been tidied up so as to be in alignment with the BRRD. In particular, the types of reorganization measures falling within the WUD are now wider so as to include the resolution tools in the BRRD and also the types of financial institutions to which the WUD applies have been extended to include all institutions to which the BRRD applies. The changes to the WUD were implemented this year in the United Kingdom.
The WUD sets out a European regime whereby the administrative or judicial authorities of the home Member State of a credit institution are empowered to decide on the implementation of reorganization measures and winding-up proceedings for the credit institution (including its branches in other Member States). These measures will then be recognised and effective across all Member States, and they will also be governed by the law of the home Member State (subject to some exceptions).
Landsbanki hf v. Merrill Lynch International Limited
In connection with a dispute about the failed Icelandic bank Landsbanki hf, the European Free Trade Association Court (the ‘EFTA Court’)14 recently had cause to rule on the scope of one of the exceptions to the above-stated rule on recognition and effectiveness: Article 30 of the WUD. Landsbanki is subject to winding-up proceedings in Iceland (its home Member State), and accordingly, the WUD means that:
- All other EEA states must recognise this; and
- The laws of Iceland govern key aspects of the winding up including, laws in relation to voidness, voidability or unenforceability of an act of Landsbanki.15
However, Article 30 provides an exception to this general position if, in short, there are no means by which the act could be challenged under the law applicable to the act in the facts of the case.
- The EFTA rules on disputes between EFTA states (Iceland, Norway and Lichtenstein in matters in the European Economic Area).
- Article 10 of the WUD.
Here, the Icelandic liquidators of Landsbanki were seeking to recoup payments that had been made by Landsbanki, before its collapse, to Merrill Lynch pursuant to an arrangement governed by English law. Landsbanki sought to do so on the basis of Icelandic bankruptcy law on avoidance of certain transactions pre-bankruptcy. Merrill Lynch, in reliance on Article 30, pointed out that the transaction would not have been voidable under English law because the challenge would not have fulfilled the time period restrictions on the laws applicable to voidability of a payment made pre-insolvency and that this was therefore one of the few instances in which English law ought to prevail.
The EFTA Court held in favour of Merrill Lynch on the basis that the words ‘rules relating to the voidance, voidability and unenforceability’ and ‘any means of challenge’ in Article 30 are to be interpreted broadly (so as to include general law, contract law or statute). In this case Merrill Lynch had established that English insolvency law would not allow a challenge to the payment.
This case is helpful in defining the extent of the primacy of the laws of the home member state over the laws chosen by the parties as being the governing law of their contract. Although EFTA Court decisions are not binding on EU courts, they are highly persuasive.
Clearly, it is still very early days for any firm conclusions on the application in practice of the BRRD, as
implemented in each Member State. Most of the examples briefly addressed in this Alert are on-going and will need to run their course. However, so far the following appear to be the main take-aways:
- The first instance decision in the Novo Banco case shows that the local resolution authority must strictly comply with the legal requirements set forth in the BRRD in order to benefit from European-wide recognition of the resolution tools. In particular when foreign law governed instruments are involved, local law cannot be relied on to ‘fix’ any non-compliance in this respect by the local resolution authority. The focus on full compliance with legal requirements and the inability, in particular where foreign law is involved, to ‘just’ rely on local law is underscored in the Landsbanki v. Merrill Lynch case as well.
- It remains to be seen whether the pre-emptive behavior of potentially affected creditors — such as that undertaken by the NBG bondholders — will and can influence the actions contemplated by a local resolution authority. Also here the focus is on the legal requirements under the BRRD that must be met before resolution tools can validly be taken by a local resolution authority. The continuation of the NBG case may shed more light on how much creditors can materially influence the relevant factual matrix with their own pre-emptive behavior.
- The Heta case continues to serve as a prime example of: (1) the complexities involved in exercising resolution tools; (2) the cumbersome nature of any challenge by affected creditors; and (3) the complicated knock-on effects (including any required further litigation) of any successful challenge.