Ever since US investment bankers started coming to Europe bearing products like high yield and securitization, they have had to contend with the confusing patchwork of legal systems across the continent.
To the less imaginative, this variety is an irksome anachronism. Why hasn’t Europe got rid of it?
The European smiles at that question. The answer is a long story — as long as Europe’s history as separate countries, and the cultural and political differences that still keep nations apart.
In securities law, great strides have been made in introducing pan-European rule books. However onerous they can be to implement, practitioners are basically glad that regulations like Mifid and the Prospectus Directive have established an EU-wide market with many of the wrinkles ironed out.
Any company in Europe big enough to need, say, €100m of capital can obtain that money from investors anywhere in the continent — or even in the US — as equity or debt. A pan-continental capital market exists.
That is partly why the EU’s new drive for Capital Markets Union has barely registered in the minds of many senior investment bankers, and even some financial lawyers. They already operate in a single European market, so why create one?
In fact, there is further to go. The harder you look, the more national differences you see in financial markets, and they act as friction to cross-border financing. Many fundraisings still have a national bias, and small and medium-sized companies cannot tap a continent-wide market.
Lowering those barriers should strengthen Europe’s capital markets and make them more efficient, which is the aim of CMU.
Insolvency a different ballgame
At the end of the CMU wishlist — acknowledged as one of the hardest goals to achieve — is harmonising insolvency and bankruptcy laws.
This is one of the prime bugbears of those securitization and high yield bankers. Laws and courts in different countries approach company failure in very different ways. This makes investors more reluctant to provide debt in smaller, lesser known markets, and makes it harder to compare the risks of debts from different countries.
Of course, the fact that international debt and securitization markets have penetrated every country in the EU proves that bankruptcy laws are no insuperable barrier.
Harmonising them would certainly make some emerging markets more mainstream, and ease the flow of capital across Europe.
But no one should think this area of reform is anything like securities law.
Non-government securities markets are to all intents and purposes a fairly new invention, and affect only a small number of large, sophisticated issuers. With a moderate degree of haggling and legislation, a common framework could be implemented across Europe.
Insolvency law is completely different. It affects every company, from the smallest sole trader to Siemens or Shell. Insolvencies occur every day, and affect a great variety of stakeholders — employees, shareholders, suppliers, customers, financial lenders, pensioners and the tax man.
Particular industries may require special arrangements to protect important stakeholders or keep vital services running.
Insolvency is simply a much more complex, three dimensional, real world event than most things dealt with by financial regulation.
Afren: an open-ended story
Consider the case of Afren, the London-listed oil company, active in Nigeria, which came within hours of a probable bankruptcy at the end of April.
The scandal began in July 2014, when Afren suspended its CEO and COO for being among 11 employees who benefited from $45m of unauthorised payments. Then the oil price collapsed.
Once a rising star of the equity and bond markets, Afren lost 98% of its market value. Months of wrangling ensued between Afren’s bondholders, bank lenders and shareholders.
As GlobalCapital revealed earlier this month, two Nigerian banks were implacable in defending their interests, even when bondholders had offered to inject fresh money into the company. They refused the restructuring until the very last moment, forcing other lenders to give way and let the Nigerian lenders keep their security packages.
As soon as one examines any debt restructuring or insolvency, it is immediately clear that there is no one right answer to that company’s problems. A variety of outcomes are possible, each of which may appear to be better or worse for different parties.
But even those gains and losses are only predictions. In Afren’s case, it will be years before anyone knows whether the high yield investors were wise to plough in more money.
No easy answers
Working out what is best for the economy and society at large is still more difficult. Is it better to give senior lenders strict priority — which should ensure that senior debt is easy for companies to obtain? Or should insolvencies be negotiated or adjudicated to share out losses? Is it wiser to liquidate companies and sell their assets to stronger rivals — or keep them going?
When the answers to these questions are so difficult, even in the case of one company — and still more across a whole economy — it rapidly becomes clear that harmonising insolvency practices across many countries is going to be very difficult.
Harmonisation might even be a bad thing.
Countries, taking into account their different economic structures and legal and cultural traditions, have evolved different ways of handling company failures. Each system has different biases — which may favour different interest groups.
It is probably good that states can handle insolvencies in ways that suit their own needs and preferences.
Certainly, any harmonisation of this sensitive issue should only be done with the political consent of each society. At the moment — sadly — popular appetite for further European integration is patchy, to say the least.
Variety is the spice of law
Moreover, as in other complex areas of public life, like health and education, there is a lot to be said for biodiversity.
Different ways of handling insolvency can produce different outcomes – and may have various pros and cons. If there is a multiplicity of systems, the strengths of each one can become apparent, and reformers can introduce them elsewhere.
If one standardised system is imposed across the EU, the scope for learning is drastically reduced, as different systems cannot be compared.
Where the advantages are clear, and it enjoys consent, harmonising legal systems — among a few countries or the whole Union — makes sense. Few would disagree, for example, that insolvencies should ideally take a matter of months to resolve, rather than years.
But no one should count Capital Markets Union a failure if it leaves Europe with a diversity of insolvency regimes — especially if each country has had a chance to properly reconsider its legal arrangements.
Don’t dismiss this as an archaic mess — call it a diversity that is flexible and responsive to local needs.