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Trends and regulatory climate

Trends

What is the current state of the lending market in your jurisdiction and have any new trends emerged over the last 12 months?

Azerbaijan’s lending market was heavily affected by the crisis caused by the decrease in oil prices and the devaluation of the manat in 2015.

According to statistics, in 2017 lending decreased by 18%. This dramatic decrease was due to the fact that the economy was the lowest it has been in five years. Customers’ creditworthiness has also deteriorated, as has the number of consumer loans in the lending market.

In the last quarter of 2016, one of the major domestic banks was declared bankrupt, while another 10 banks lost their licences in the preceding periods.

There are only 31 banks and about 120 non-banking credit institutions in Azerbaijan. The number of banks is expected to decline further.

It has been reported that 16% of lenders’ aggregate loan portfolios are now considered bad loans, a twofold increase from 2016’s figures.

In addition, 2017 saw the debt undertakings’ restructure of Azerbaijan's most important bank, whose major shareholder is the state. Although the state had its debts partially written off, they were predominantly converted into sovereign bonds.   

Finally, the state launched an electronic portal for mortgage loans to allow electronic communication and online repayments.

Regulatory activity

Is secured lending a regulated activity in your jurisdiction?

No, secured lending is not per se subject to specific regulation in Azerbaijan. Financial institutions engaged in secured and unsecured lending (as a business activity) must hold a licence. Further, banks engaged in mortgage lending through the state-owned mortgage fund must maintain membership in the fund.

Are there any specific regulatory issues which a prospective borrower should consider when arranging or entering into a secured loan facility?

No, there are no specific regulatory issues which a prospective borrower should consider.

Are there any specific regulatory issues which a prospective lender should consider when arranging or entering into a secured loan facility?

Yes, arranging or entering into a loan facility – when it is a core activity of the lender – requires that such lender hold a licence entitling it to the same. Generally, this requirement is not enforced in relation to borrowings in international markets. Additionally, issues may arise on the sale of assets (eg, cash) in order to secure a loan.

Are there plans or proposals for reform or significant changes to the regulatory landscape in this area?

Yes, a framework law on regulating and monitoring financial markets and a securitisation law (a novelty in Azerbaijani law) are expected to be introduced. Further, it has been reported that bad loans might become subject of a separate regulation.

In 2017 the Law on Encumbrance over Movables was promulgated. The Register of Encumbrance over Movables (other than securities, vehicles and a few other types of movable property for which specific registries exist) is expected to be created in 2018.

The Law on Credit Bureaus was enacted in 2016 and the first private credit bureau is expected to become functional during 2018.

Structuring a lending transaction

General

Who are the active providers of secured finance in your jurisdiction (eg, international banks, local banks or non-bank financial institutions)?

Depending on the borrowers’ groups, providers of secured finance in Azerbaijan may vary. When local banks and non-banking financial institutions lend proceeds borrowed from abroad, ultimate lenders are generally assigned such security interest. International banks typically lend to state-owned enterprises and often do not use collateral to avoid triggering negative pledges on Azerbaijani undertakings under international borrowings.

Is well-established market-standard facility documentation used in your jurisdiction for secured lending transactions?

No, there is no such documentation adopted for the Azerbaijani market. Transactions between local borrowers and international banks are typically governed by foreign law and based on the Loan Market Association’s standard documentation.

Syndication

Are syndicated secured loan facilities typical in your jurisdiction?

Yes, for large lending transactions, which are commonly subject to foreign law.

How are syndicated facilities normally structured? Does the law in your jurisdiction allow a facility agent to be appointed to act on behalf of other banking syndicate members?

Yes.  As far as security for loan is concerned, the parallel debt provision is used for loan documentation which is otherwise governed by foreign law.

Does the law in your jurisdiction allow security and guarantees to be held on trust by a security trustee for the benefit of the banking syndicate?

No, except for limited cases where a person can act on its own behalf in the interests of others (eg, as a commissionaire). Azerbaijani law does not recognise the concept of ‘security trustees’ or ‘security agents’ and requires that security documents thereunder disclose obligees as security holders (alternatively, the parallel debt provision as discussed above is used).

Special purpose vehicle financing

Is it common in secured finance transactions for special purpose vehicles (SPVs) to be used to hold the assets being financed? Would security generally be given over the shares in the SPV or would lenders require direct asset security?

Yes, although the establishment of SPVs is common for cross-border transactions. In domestic deals, financed assets are held directly by the borrower. Generally, security over the shares is insufficient and does not protect assets from being disposed of; therefore, security is normally taken over both shares and assets.

Interest

Is interest most commonly calculated by reference to a bank base rate or a market standard variable reference rate (eg, LIBOR, EURIBOR or HIBOR)? If the latter, which is the most commonly used reference rate in your jurisdiction?

In domestic borrowings, interest is most commonly calculated by reference to the base rate of the Central Bank of the Republic of Azerbaijan. In cross-border transactions, the most common rates are LIBOR and EURIBOR.

Are there any regulatory restrictions on the rate of interest that can be charged on bank loans?

No, there are no restrictions on the rate of interest that can be charged on bank loans (although accrual of interest on penalty is restricted). Azerbaijani law restricts the deductibility of interest from taxable profits, thereby limiting interest paid on foreign loans to 125% of the average interest rate charged in the same currency for similar periods of time at an “interbank credit auction or, if such auctions are not conducted, [the interest rate] of interbank credits as published by” the Central Bank of the Republic of Azerbaijan.

Use and creation of guarantees

Are guarantees used in your jurisdiction?

Yes, licensed financial institutions can issue guarantees, whereas sureties can be issued by any other person.

What is the procedure for their creation?

No specific procedure applies for the creation of guarantees. Guarantees must be in writing. The bank issuing a guarantee must meet applicable prudential requirements regarding its level of exposure.

Do any laws affect or restrict the granting or enforceability of guarantees in your jurisdiction (eg, upstream guarantees)?

No, save that Azerbaijani law requires state enterprises indebted to the state budget to obtain a permit from the Ministry of Finance to issue a guarantee subject to foreign law or surety subject local law. No specific regulation or restriction for upstream guarantees apply.

Subordination and priority

Describe the most common methods of structuring the priority of debts and security.

Debts and security are prioritised on a first-come, first-served basis (ie, the earlier the security was registered with a designated register, the more priority it will have over other security in the same asset). In order to change the order of priority, all affected creditors must provide a written agreement. Should such arrangement touch on hypothec or other claims and security under notarised agreements, the concerned written agreement must also be notarised.

The new Law on Encumbrance over Movables, which came into effective on May 28 2017, will (once implemented) allow creditors to prioritise their claims by making public the encumbrances securing such claims. In order to do so, creditors can record them in the encumbrances’ register (when implemented) or get possession over, or acquire control of, the encumbered items.

Documentary taxes and stamp duty

Are any taxes, stamp duty or other fees payable on the granting of a loan, guarantee or security interest, or on its enforcement?

No specific taxes, stamp duty or fees apply on the granting of a loan, guarantee or security interest, or on its enforcement, except for:

  • notary charges – levied on notarisation of security arrangements at a m30 maximum;
  • state duty – m10 to register a pledge and m20 to register a hypothec; and
  • collection fee – charged by bailiffs at 7% on top of the amount collected from an obligor.

Cross-border lending

Governing law

Is it more common for local law to govern the terms of the facility documentation or is the law of another jurisdiction often elected by the parties (eg, English law or New York law)?

In a cross-border financing deal, the parties usually elect English or New York law to govern the terms of the facility documentation. Security documentation created in relation to domestic assets must be governed by Azerbaijani law.

Restrictions

Are there any restrictions on the making of loans by foreign lenders or the granting of security or guarantees to foreign lenders?

No, except as stated above.

Are there any exchange controls that restrict payments to a foreign lender under a security document, guarantee or loan agreement?

No, neither repayments of loans to a foreign lender, nor payments of interest, fees and penalties in relation to such loans, are restricted and can be freely made without obtaining any permits.

Security – general

Security agreements

Is it possible to create a security interest over all assets of an entity? If so, would a single security agreement suffice or is a separate agreement required for each type of asset?

While a single security agreement can be made for all of an entity’s assets, practically it would be unfeasible to create one agreement which had the elements of both a pledge and hypothec. A hypothec is a security over real estate and movables, the title to which is registered in designated registries (eg, vehicles and aircraft). A pledge is a security over all other types of asset.

Besides, there is no unified register or other mechanism in Azerbaijan to have a single security interest over all assets recorded therein. Therefore, for each type of asset, an individual security agreement must be made.

Release of security

What are the formalities for releasing security over the most common forms of assets?

The formalities are typically governed by contractual arrangements. Security can be released against a discharge, an obligee’s request and a court order.

Asset classes used as collateral for security

Real estate

Can security be granted over real estate? If so, what are the most common forms of security granted over real estate and what is the procedure?

Yes, such security will be regarded a hypothec, the only form of security available over real estate. A hypothec is created on the basis of a notarised agreement and registered with the state register of real estate run by the state service.

Machinery and equipment

Can security be granted over machinery and equipment? If so, what are the most common forms of security granted over this kind of property and what is the procedure?

Yes, security (in the form of a pledge) can be granted over machinery and equipment. A pledge must be made in writing. However, if it contains an out-of-court enforceability clause, it must be notarised to be valid and enforceable. A register for encumbrance of movables is expected to be created in 2018 and the registration of pledges would be one of the options to ensure a pledge’s priority.

Receivables

Can security be granted over receivables? If so, what are the most common forms of security granted over this kind of property and what is the procedure?

Yes, security granted over receivables is possible and regarded as pledge of rights (claims) to be established by a written agreement (and notarised for an out-of-court enforcement clause).

Financial instruments and cash

Can security be granted over financial instruments? If so, what are the most common forms of security granted over this kind of property and what is the procedure?

Security over financial instruments and cash is also possible. Security over financial instruments is formalised by a pledge agreement and must be registered with the National Depository Centre, which has three business days to process the registration application appending the pledge agreement. During that period, the operations with the pledged instruments will be suspended.

To create security over cash, proceeds must be credited with a bank or notary’s deposit account.

Can security be granted over cash deposits? If so, what are the most common forms of security granted over this kind of property and what is the procedure?

Yes, security over cash deposits is possible and the procedure to follow is the same for a pledge of rights (see above). Normally, an account bank is also made a party to the security agreement.

Intellectual property

Can security be granted over intellectual property? If so, what are the most common forms of security granted over this kind of property and what is the procedure?

Yes, IP rights as intangible assets can be subject to security in Azerbaijan. Security over trademarks is subject to state registration. A notarised agreement must be made and filed, together with an application to the Azerbaijani State Committee on Standardisation, Metrology and Patents.

The committee has one month to review the application and register the security by making an entry into the register and notifying the applicant within five business days of the registration completion. The information about the registered security and any subsequent amendments to it is published in the committee’s official bulletin.

Enforcement

Criteria for enforcement

What are the common enforcement triggers for loans, guarantees and security documents?

The common enforcement triggers include:

  • payment default;
  • cross-default;
  • deterioration of security;
  • false representations; and
  • any changes in law making borrowing unlawful.

Domestic loans usually have fewer sophisticated triggers compared to cross-border lending.

Guarantees and other security (pledges and hypothecs) are enforced following a default by a principal debtor under the secured obligation. The default may comprise the deterioration of a pledged or hypothecated asset.

Process for enforcement

What are the most common procedures for enforcement? Are there any specific requirements with which lenders must comply?

Enforcement is commonly run through court proceedings. Before filing proceedings, the lenders must exhaust out-of-court mechanisms for having the debts repaid. Otherwise, no specific procedures apply.

Lenders filing court proceedings must supply originals or notarised documents evidencing the debt, together with their certified Azerbaijani translations. Absent a notarised agreement on an out-of-court enforcement, the enforcement over security would be through courts.

An out-of-court enforcement would involve a notary evidencing a default and a bailiff acting on the basis of the notary’s enforcement writ. A bailiff must proceed with the enforcement procedure within three days of the receipt of the notarised agreement endorsed by an enforcement writ and complete the enforcement within maximum three months, unless the enforcement is challenged by a debtor.

Irrespective of the type of collateral, the security holder must first notify the obligor and all other known security holders (creditors) of the launch of an out-of-court enforcement.

Enforcement of a hypothec must be made through the sale of the concerned real estate at a public auction or otherwise, as agreed by the parties.

In pledges, the security holder can sell only at auction. The pledged securities are sold through a stock exchange.

Ranking in insolvency

In what order do creditors rank in case of the insolvency of a borrower?

Claims of unsecured creditors and residual claims of secured creditors (ie, claims left unpaid from enforcement of security) come in the fifth tier of claims in the bankruptcy of most companies.

When the borrower is a bank or insurer, unsecured claims move down the list, as such borrowers face more specific groups of claims. For instance, in relation to insurers, unsecured claims come after:

  • claims relating to losses associated with compulsory insurance;
  • claims relating to losses associated with voluntary personal insurance;
  • claims relating to losses associated with voluntary property insurance;
  • claims for refunds of premiums under unexpired coverage;
  • creditors’ secured claims;
  • claims relating to injury and death caused by the insurer’s activities;
  • claims by the bankrupt insurer’s employees for their allowances and wages;
  • claims for copyright payments; and
  • taxes and other statutory payments and sovereign loan repayments to the state budgets for the period (except in relation to the sovereign loan repayment) of one year before the bankruptcy.

In banks, unsecured claims come after:

  • (subrogation) claims of institutions insuring deposits of individuals;
  • costs incurred in connection with bankruptcy procedures by the temporary administrator and liquidator;
  • claims by the bank’s employees for personal injuries or death during business hours;
  • claims of the bank’s employees (current and former) for allowances, and salaries due for the six-month period before the court’s decision on the bankruptcy;
  • the bank’s liabilities incurred during the temporary administrator’s management or during financial improvement; and
  • taxes and mandatory state social insurance charges due from the bank one year before the court’s decision on the bankruptcy.