Why is the Commission proposing a targeted harmonisation of insolvency proceeding rules?
Today's initiative, announced in the Capital Markets Union Action Plan of September 2020, is part of the Commission's priority to advance the Capital Markets Union (CMU). The lack of harmonised insolvency regimes has long been identified as one of the key obstacles to the freedom of capital movement in the EU and to greater integration of the EU's capital markets. Today's proposal aims at harmonising targeted elements of Member States' insolvency rules and at creating common minimum standards across all Member States, thereby facilitating cross-border investment.
Member States' different starting points, legal traditions and policy preferences imply that reforms at national level in this area are unlikely to lead to a convergence of insolvency systems. Action at EU level is, therefore, needed to reduce this fragmentation.
What specifically is the Commission proposing?
The proposal aims to accomplish convergence in three key dimensions of corporate (non-bank) insolvency law: (i) ensuring that creditors can recover the maximum value from the liquidated company, (ii) the efficiency of insolvency procedures and (iii) the predictable and fair distribution of recovered value among creditors.
-Maximising the recovery value of the liquidated estate
Today's proposal introduces a minimum set of harmonised conditions across the EU to ensure that debtors do not reduce the value that creditors can get. It will also introduce conditions on asset traceability by improving insolvency practitioners' access to asset registers, including in a cross-border setting. This is combined with the possibility of maximising the recovery value of the business at an early stage through ‘pre-pack' sales (i.e. a planned insolvency procedure where the assets are sold to a designated purchaser) and an obligation on company directors to file for insolvency without undue delay to avoid potential asset value losses for creditors.
-Enhanced procedural efficiency
The proposal also sets up rules for a simplified winding-up procedure for insolvent microenterprises. For those small companies, the cost of ordinary insolvency procedures is often prohibitively high. The new rules will ensure that microenterprises, even those with no assets, are wound up orderly, in a fast and cost-effective procedure. This will also ensure that entrepreneurs can have a debt discharge at the end of the procedure. To accomplish this, as a rule, no insolvency practitioner should be appointed (as this is an additional cost), the debtor should remain in possession of the assets and of the day-to-day operation of the business throughout the procedure and the residual value of assets should be realised through an electronic auction system.
-Fair and predictable distribution of recovered value
Today's proposal sets out how creditors' interests can be represented in “creditors' committees.” Creditor committees are a key tool to protect the interests of all creditors. The proposal sets out conditions for such committees to be created and minimum harmonisation rules in relation to key aspects, such as the appointment of the members and the composition of the committee, the working methods, the rights and functions of the committee, as well as the personal liability of its members.
What is this proposal changing?
The corporate insolvency proposal:
-Harmonises conditions for “transaction avoidance”. This will protect the insolvency estate by clawing back assets that were wrongfully disposed of prior to the opening of insolvency proceedings (e.g. if a debtor makes a donation to a friend just before insolvency proceedings);
-Makes it easier to trace assets across borders by facilitated insolvency practitioners' access to asset registers;
-Allows for the preparation and negotiation of the sale of the debtor's business before the formal opening of the insolvency proceedings (‘pre-pack'). This will help prevent the quick deterioration of the value of the company (‘melting ice cube effect');
-Requires directors to file for insolvency without undue delay to avoid potential asset value losses for creditors (‘zombie firms');
-Provides simplified procedures for insolvent microenterprises, hence reducing the costs of the proceedings and guaranteeing an orderly liquidation;
-Improves representation of creditors' interests through creditors' committees;
-Makes key features of national insolvency regimes, including insolvency triggers and the ranking of claims, more transparent for creditors to reduce the cost for cross-border investors to search the information.
What will be the impact on firms?
With more harmonised EU rules, companies - especially SMEs and those operating in a cross-border context - will benefit from more uniform conditions. This means that investors will be encouraged to invest cross-border, resulting in more funding for companies, including SMEs.
Today's proposal introduces incentives for insolvent companies to act in a timely manner. In addition, insolvent companies will have the opportunity to sell parts of their business as a going concern (i.e. a company that is financially stable enough to meet its obligations and continue its business for the foreseeable future).
By increasing expected recovery rates for creditors and investors, the proposal seeks to reduce the perceived risk of investing in SMEs and other companies. This should lead to lower funding costs. By giving microenterprises the possibility to start insolvency proceedings, this proposal ensures that they benefit from access to orderly liquidation and the possibility to start afresh.
What is the objective of the insolvency regime for microenterprises?
National insolvency rules do not always treat insolvent microenterprises in a proportionate manner. The cost of ordinary insolvency procedures is often prohibitively high for small companies, which currently cannot benefit from orderly liquidation and debt discharge for their entrepreneurs.
Today's proposal sets up rules for faster, simpler, and affordable procedures for insolvent microenterprises, allowing all microenterprises to commence proceedings to address their financial difficulties independent of their ability to cover the ensuing administrative costs. The new rules will ensure that microenterprises, even those with no assets, are wound up orderly, in a fast and cost-effective procedure. A special insolvency regime for microenterprises will reduce the judicial costs compared to the judicial costs of ordinary proceedings and ensure that entrepreneurs can obtain debt discharge at the end of the procedure.
To accomplish this, the proposal allows Member States to entrust the conduct of the proceedings to a competent authority which is either a court or an administrative body. The Commission proposes short deadlines and minimises formalities for all procedural steps, including for the opening of the proceedings, the lodgement and the admission of claims, the establishment of the insolvency estate and the realisation of assets. The debtor should remain in control of its assets and day-to-day operation of the business as a rule, and insolvency practitioners would only be appointed in exceptional cases. Member States should ensure that the assets of insolvent microenterprises can be realised through electronic public auctions to maximise their value.
What will be the benefits for creditors?
Creditors will benefit from expected higher value recovery. Creditor committees will also allow them to coordinate their decisions more effectively.
Furthermore, creditors stand to benefit from improved tools for value recovery not only in insolvency, but also long before it - notably when making their decision to invest. Since the more efficient and aligned rules around value recovery would increase creditors' confidence to obtain better or fairer access to the debtor's assets in case of insolvency, they allow for more certainty in assessing the cost of capital against which credit is granted. When these rules are more aligned across Member States, creditors who give a loan to a debtor in another Member State will find it easier to evaluate the impact of, for example, transaction avoidance law of another Member State (compared to their own).
Cross-border creditors will further benefit from higher transparency on key characteristics of insolvency regimes and ranking of claims, which is expected to significantly reduce “information and learning costs” related to decision-making in cross-border investment.
What is the Commission proposing and why?
A core aim of the CMU is to improve the access to market-based sources of financing for small and large firms. This would help them grow and diversify their funding, which is particularly important for small and medium-sized enterprises (SMEs) that rely excessively on bank financing.
Since the first CMU Action Plan in 2015, it has become easier and cheaper for companies and in particular SMEs to access public markets. Stakeholders continue, however, to argue that further regulatory actions need to be considered to streamline the listing process and to achieve a more proportionate regulatory treatment of, in particular, smaller companies.
Today's proposal follows up on the Commission's commitment to simplify EU listing rules, as detailed in Action 2 of the 2020 CMU Action Plan.
It aims to:
-Alleviate and render more proportionate the requirements that apply both at the moment of listing and when listed;
-Preserve a sufficient degree of transparency, investor protection and market integrity;
-Address the issue of fragmentation in national laws that restricts the flexibility of companies to issue multiple-vote shares. This is important for founders of some companies to retain control and continue with their vision of the company, also after going public.
What elements make up today's package?
The package contains amendments to the Prospectus Regulation, the Market Abuse Regulation and targeted changes to the Markets in Financial Instruments Directive (MiFID II) and Regulation (MiFIR). It also repeals most requirements in the outdated Listing Directive, transferring the few provisions that are still relevant to MiFID II. Finally, it puts forward a new proposal for a Directive on Multiple-vote rights, to encourage entrepreneurial companies, including small and medium sized ones, to list for the first time on SME growth markets with a governance structure that allows them to maintain control over the vision of the company.
Who will most benefit from the proposed measures?
The initiative aims at simplifying the listing rules for companies that want to list on public stock exchanges. These companies will benefit from a more cost-efficient regulatory regime. For example, it is estimated that EU listed companies will save approximately €100 million per year from lower compliance costs, with companies saving €67 million per year from simpler prospectus rules alone. Companies, in particular smaller ones, will also be able to benefit from the possibility to list with a more flexible governance structure. The new proposal on multiple-vote shares will allow founders and owners to enjoy the benefits of being listed while maintaining control over the long-term vision of their company. The initiative would also foster investment research, especially for SMEs.
How will the changes to the Prospectus Regulation help more companies list?
Today, companies that want to list their securities on public markets face significant costs when it comes to drawing up a prospectus (which can be up to 800 pages long).
Today's package contains important alleviations for both first-time issuers - including SMEs, who will benefit from shorter and more streamlined prospectuses - and issuers tapping public markets repeatedly, who will be exempted from the obligation to draw up a prospectus when issuing “more of the same” securities, provided that certain conditions are fulfilled. By streamlining prospectuses, we will also ensure a focus on what is relevant for investors to avoid information overload and to allow them to make well-informed investment decisions.
The proposed measures will also aim to improve the efficiency of the scrutiny and approval of prospectuses by national competent authorities in order to make that process shorter and more predictable.
Market Abuse Regulation (MAR): will the targeted changes not lead to less market integrity?
No, the proposed changes aim at striking the right balance between reducing the administrative burden for issuers and safeguarding market integrity.
These targeted revisions of the market abuse framework will reduce legal uncertainty around the interpretation of requirements on the disclosure of inside information. The disclosure regime would, therefore, become more predictable from the investors' point of view and more conducive to effective price formation, while reducing the complexity for issuers. In addition, a more proportionate sanctioning regime for SMEs for disclosure-related infringements would avoid discouraging smaller issuers from listing or remaining listed on trading venues.
The proposal also reinforces the capacity of market authorities to carry out their supervisory tasks. On the one hand, it strengthens the capacity of supervisors to monitor markets by creating a mechanism to exchange among market authorities order book data (cross-market order book data surveillance). This system will enrich the market abuse supervisory toolbox in the context of the further integration of European markets. On the other hand, the proposal provides for a strengthened role for ESMA in the field of cooperation among market authorities and exchange of information. These measures will ensure greater market integrity and enhance investor confidence.
Multiple-vote shares: how did you balance the need to encourage entrepreneurs to list, while protecting all investors on capital markets?
The proposal requires all Member States to allow companies to use multiple-vote shares when they list for the first time on SME Growth Markets. Multiple-vote share structures are a type of control-enhancing mechanism that allows company owners to retain decision-making power in a company while raising funds on public markets. They typically include at least two separate classes of shares with a different number of voting rights. Currently, not all Member States allow companies to list with multiple-vote shares. This proposal would allow all companies across the EU to list for the first time on SME Growth Markets with such shares, also promoting the importance of SME Growth Markets.
The introduction of multiple-vote share structures is accompanied by the inclusion of safeguards to protect the interests of minority shareholders and of the company. These safeguards require all Member States to ensure that any decision to adopt a multiple-vote share structure, or to modify that structure where there is an impact on voting rights, is taken by a qualified majority at the general shareholders' meeting. The safeguards set out in this proposal also introduce a limitation on the voting weight of multiple-vote shares by introducing restrictions either on the design of the multiple-vote share structure or on the exercise of voting rights attached to multiple-vote shares for the adoption of certain decisions. Investors would therefore enjoy sufficient protection across the EU when investing in companies with multiple-vote share structures.
Investment Research: Why is it necessary to amend the rules on investment research?
Companies considering an IPO, as well as listed companies, need to make themselves known to potential investors. Small and medium sized companies, however, suffer from a low level of investment research. This results in low visibility and low investor interest.
While the unbundling rules introduced by MiFID II were designed to break the link between brokerage commissions and investment research, they have actually exacerbated the negative trend in research coverage for small and medium firms and have not led to the emergence of independent, SME-focused research providers.
In 2021, the unbundling rules were first amended under the Capital Markets Recovery Package (CMRP) as part of the Commission's response to the COVID-19 crisis. It sought to improve SME research coverage by allowing a joint payment for trade execution and investment research for those issuers whose market capitalisation does not exceed €1 billion. This measure was widely welcomed.
However, it did not sufficiently address the problem. As many investment firms and brokers offer services to companies of varying sizes (and capitalisation), including those exceeding capitalisation of €1 billion, these investment firms and brokers decided against introducing two parallel systems for research invoicing (one for the large cap (blue chip) companies and another one for the other companies), maintaining the unbundled approach for all clients.
Therefore, the amendment in the CMRP did not fully reach its objective to support the production of the SME research. As a result, the Commission is further amending these rules. The main changes include a higher threshold of market capitalisation below which the unbundling rules do not apply, so that firms providing SME research can bundle the price of the research with that of the brokerage services. Another significant change is the introduction of a code of conduct to support issuer-sponsored research, in order to increase its reliability.
How do the proposals fit into the Commission's wider work to support SMEs?
Today's proposals fit into wider ongoing work to support SME access to public markets.
For example, (i) the creation of an EU Single Access Point (ESAP) that will tackle the lack of accessible and comparable data for investors, making companies more visible to investors, (ii) the centralisation of EU trading information in a consolidated tape for a more efficient public market trading landscape and price discovery, (ii) the introduction of a debt-equity bias reduction allowance (DEBRA) to make equity financing more attractive (and less costly) for companies.
Furthermore, other Commission initiatives will further strengthen the investor base for listed equity. The EU SME IPO (Initial Public Offering) Fund will play the role of an anchor investor to attract more private investment in SMEs' public equity by partnering with institutional investors and investing in funds focused on SME issuers. The Capital Requirements Regulation's and Solvency II reviews will increase the investor base for issuers by facilitating investments from banks and insurance companies in public (long-term) equity. These changes in prudential regulation are introduced in addition to already existing measures, such as the SME supporting factor, which allows for a more favourable prudential treatment of certain exposures to SMEs with a view to incentivise banks to prudently increase lending to SMEs.
In addition, today's package will also be an important contributor to the implementation of the New European Innovation Agenda, particularly its flagship area on funding for deep tech scale-ups, as announced by the Commission in July 2022. The focus on SME growth markets and the proposal on multiple-vote shares is much welcomed by EU research and innovation stakeholders, such as tech scale ups and innovative companies backed by venture capital, as it provides further incentives to access capital markets and offer an improved exit route for venture capital investors.