On 30 November 2015, the European Commission published its proposal for a new EU regulation to replace the existing EU prospectus regime (the Proposed Regulation).
These proposals form part of the European Commission’s broader action plan for building a Capital Markets Union, to “Modernise the Prospectus Directive to make it less costly for businesses to raise funds publicly… update when a prospectus is needed, streamline the information required and the approval process, and create a genuinely proportionate regime for SMEs to draw up a prospectus and access capital markets”1.
This briefing considers the key changes proposed by the Commission in the Proposed Regulation, and the potential impact on market participants in the debt and equity capital markets if these proposals are taken forward.
Wholesale debt securities – no public offer exemption and increased disclosure
The public offer exemption for wholesale debt securities with a minimum denomination of €100,000 will be removed. Therefore, public offers of debt securities with a denomination of €100,000 or more will require a prospectus (whether or not the securities will be admitted to trading on a regulated market), unless the issuer can make use of one of the other public offer exemptions that will continue to be available, such as offers addressed solely to qualified investors or offers for a total consideration of €100,000 or more per investor. It is very likely that there will be increased use of these other public offer exemptions if the Proposed Regulation is enacted in its current form.
The “lighter” disclosure regime that currently applies to wholesale debt will go, and issuers of debt securities will be required to provide a uniform level of disclosure regardless of denomination (unless they make use of one of the other public offer exemptions and avoid listing on a regulated market). A unified prospectus template will be defined in future delegated acts, taking the existing wholesale disclosure annexes (Annexes IX and XIII) as a starting point and adding information necessary for retail investor protection. The precise implications of this change remain to be seen, but issuers of wholesale debt securities will need to be prepared to deliver a higher standard of disclosure if they do not benefit from a public offer exemption and/or wish to list on a regulated market.
These changes are intended to reduce incentives for issuers to issue in high denominations, as evidence presented to the European Commission in the impact assessment indicated that the favourable treatment awarded to wholesale debt has led to “unintended consequences, creating distortions in the European bond markets and making a significant share of bonds issued by investment-grade companies inaccessible to a wider number of investors.”2. There may still be some debate among market participants as to whether it is appropriate to adopt a uniform approach for all securities, or whether a different approach should be adopted for certain types of securities that may not be considered suitable for retail investment.
The civil liability attached to the summary remains largely unchanged, but summaries will need to comply with new length restrictions (no more than six sides of A4 using characters of readable size and in language that is clear, non-technical, succinct and comprehensible). The new prospectus summary will be modelled on the key information documents required under the PRIIPS Regulation3. Although there is no longer a requirement for summaries to be in a “common format”, the Proposed Regulation does contain some prescriptive detail on content (although issuers will have latitude to develop brief narratives and select information that is material). Among other things, the summary must include a brief description of no more than five of the most material risk factors specific to the issuer and no more than five specific to the securities, each in the category of highest materiality.
The Proposed Regulation no longer includes an exemption from the requirement to produce a summary for issuers of wholesale debt, so all issuers of debt securities will be required to prepare issue-specific summaries. Setting out all the key information and risk factors within a summary of limited length may be especially challenging for issuers of high yield, secured or structured debt securities. For example, issuers of secured and structured debt securities that fall within the scope of the new regime will need to provide summary information about the asset pool, the structure of the transaction and other parties involved, in addition to summary information about the issuer and the securities, all within the new length restrictions for the summary.
Risk factors – to be allocated to categories
The Proposed Regulation requires risk factor disclosure to be “limited to risks which are specific to the issuer and/or the securities and are material for taking an informed investment decision”4.Issuers will need to categorise risks by materiality and allocate them across a maximum of three distinct categories, based on the issuer’s assessment of the probability of their occurrence and the expected magnitude of their negative impact. As noted above, there will also be restrictions on risk disclosure in the summary. The Proposed Regulation requires ESMA to develop guidelines on how competent authorities should assess whether risk factors are specific to the issuer and/or securities, their materiality and how they are allocated.
The aim of these changes is to counter the concern that current risk disclosure is too long and detailed, but the new approach could raise liability concerns. Issuers may be left exposed if a risk factor that is assigned a low probability or magnitude, or which is not included in the summary, later proves to have a significant impact on their business. The prescriptive new requirements create challenges for issuers in the same sector who may be caught between following precedent and taking their own decisions on the order and materiality of risks, and may also exacerbate the difficulties issuers face in ensuring consistency of risk disclosure across offer documents worldwide.
Universal Registration Document – route to ‘frequent issuer’ status
Member State issuers with securities already admitted to trading to a regulated market or Multilateral Trading Facility will be allowed to draw up a ‘universal registration document’ (URD), a new concept introduced by the Proposed Regulation. Once in place a URD will be capable of being used as part of any future equity or debt prospectus.
An issuer with a URD will have the status of a ‘frequent issuer’ and be entitled to a faster approval process (five working days for an initial submission, rather than 10 – although as debt prospectuses typically receive comments well within the 10 working day deadline, this is likely to be of most interest to equity issuers ). Frequent issuers will however need to inform the competent authority at least five working days before the date they envisage submitting an application for approval. If the URD is published within four months of an issuer’s financial year end it may be possible to use it as the issuer’s annual report if all relevant content requirements are met. The same applies for a half-yearly financial report, if the URD or an amendment is published within three months of the end of the financial half-year. If prepared on an annual basis, a URD will not require competent authority approval after the first three years, although competent authorities will retain the right to review at a later date. The benefits of ‘frequent issuer’ status can be withdrawn if comments are not incorporated or an issuer otherwise fails to publish required regulated information.
A key outstanding point is what the URD will need to contain. The Proposed Regulation leaves detail to future delegated acts, but does state that financial information, operating and financial review and prospects and corporate governance requirements should be ‘aligned as much as possible with the information required to be disclosed in the annual and half-yearly financial reports’.
Minimum disclosure regimes – secondary issuances and SMEs
New minimum disclosure regimes will be introduced for offers to the public or admissions to trading by certain listed issuers and, separately, for public offers by SMEs.
Any issuer with securities already listed for at least 18 months on a regulated market (or SME growth market) will be eligible to use the minimum disclosure regime for an issue of securities of the ‘same class’. It is not clear how the ‘class’ concept will be interpreted for debt instruments. In addition, existing listed equity issuers can use the regime for a new issue of non-equity securities (provided full disclosure is given on the new securities). Provision is also made for offerors of a class of securities admitted to trading on a regulated market or SME growth market for at least 18 months.
SMEs (including companies with a market capitalisation of up to €200 million) will be entitled to a separate minimum disclosure regime for public offers, provided they have no securities admitted to trading on a regulated market. The SME regime will allow an issuer to prepare either a typical prospectus or, for equity or (broadly) vanilla debt issues, a new ‘questionnaire’ style document.
The Proposed Regulation does not go into detail on the prospectus content requirements for either regime (these will follow in future delegated acts), but does indicate that prospectuses under the secondary issuances regime will require only one year of financial information, which can be incorporated by reference. The existing proportionate disclosure regime for pre-emptive equity issues is not widely used, in particular when offerings are extended into the US, and it remains to be seen whether the new minimum disclosure regime will be more useful in practice particularly for those offerings large enough to want to access the US institutional market.
Third country issuers – new requirement to appoint a ‘representative’
The Proposed Regulation requires third country issuers seeking approval of a public offer or admission to trading prospectus to appoint a representative established in the issuer’s home Member State. That representative must be among “the entities which are subject to and supervised under EU financial services regulation, on the basis of an authorisation”5. That representative will serve as a contact point for the purposes of the Proposed Regulation, through which any official correspondence with the relevant competent authority will take place. The representative will also, together with the third country issuer, be responsible for compliance of the prospectus with the requirements of the Proposed Regulation (although the precise ambit of this provision, which could be read to make the representative jointly liable for the prospectus with the issuer, is a point that could usefully be clarified). It remains to be seen whether representatives will be willing to accept this level of responsibility, and if so what complexity this addition will add to the issuance process.
Other points to note
- The scope of documents that can be incorporated by reference has been extended;
- The admission to trading exemption for fungible securities now applies to all securities (not just shares) with a higher threshold of 20% over a 12 month period;
- ESMA will develop an online storage mechanism for prospectuses with a search tool; and
- The Prospectus Directive (Directive 2003/71/EC) will be repealed and replaced with the Proposed Regulation.
The European Parliament and the European Council will now discuss these proposals and agree amendments. A further draft of the Proposed Regulation is likely to follow these discussions, before a final version is agreed and enacted. We understand that the Commission hopes to adopt the new regulation before the end of 2016.
The Proposed Regulation leaves the detail of many areas to be developed through delegated acts and ESMA technical standards, including in relation to summaries, prospectus and universal registration document contents, the minimum disclosure regimes and risk factors. These details will be key to understanding how the Proposed Regulation will impact capital markets participants.