Consulting Editor Ignacio Buil Aldana

The TMA Handbook for Practitioners

Investing in

Distressed

D

ebt in E

urop

e

Consulting editorIgnacio Buil AldanaPublished in association with TMA Europe

Managing directorSian O’Neill

Investing in Distressed Debt in Europe: The TMA Handbook for Practitionersis published byGlobe Law and Business Limited3 Mylor CloseHorsellWokingSurrey GU21 4DDTel: +44 20 3745 4770www.globelawandbusiness.com

Printed and bound by Gomer Press

Investing in Distressed Debt in Europe: The TMA Handbook for Practitioners

ISBN 9781911078104

© 2016 Globe Law and Business Ltd

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DISCLAIMERThis publication is intended as a general guide only. The information and opinions which it containsare not intended to be a comprehensive study, nor to provide legal advice, and should not be treated as a substitute for legal advice concerning particular situations. Legal advice should always be soughtbefore taking any action based on the information provided. The publishers bear no responsibility forany errors or omissions contained herein.

EPUB ISBN 9781787420458Adobe PDF ISBN 9781787420465Mobi ISBN 9781787420472

Table of contents

Foreword 7

Lukas Fecker

TMA Europe President

Preface 9

Ignacio Buil Aldana

Cuatrecasas, Gonçalves Pereira

Part I: Introduction

Investing in distressed debt 13

in Europe: an overviewTom Cox

Damian Malone

Mark Sinjakli

AlixPartners

Part II: Acquisition of distressed debt

Credit agreement and 33

indenture analysis from a European perspective

Jacqueline Ingram

Cadwalader, Wickersham & Taft LLP

Anatomy of an LMA distressed 43

trade transaction and transfermechanisms under English law

Elizabeth Bilbao

Mandel, Katz & Brosnan LLP

Overview of distressed 59

trading in selected jurisdictions

FranceJérémie Bismuth

Olivia Locatelli

Dimitrios Logizidis

Gide Loyrette Nouel

GermanySacha Lürken

Wolfgang Nardi

Oded Schein

Kirkland & Ellis International LLP

ItalyGregorio Consoli

Federica Scialpi

Chiomenti Studio Legale

SpainBeatriz Causapé

Cuatrecasas, Gonçalves Pereira

Part III: The European non-performing loans (NLP) market

‘Bad banks’ and their 81

role in the financial sectordeleveraging process in Europe

Fernando Mínguez

Cuatrecasas, Gonçalves Pereira

Anatomy of a non- 93

performing loan portfolio salePaul Dunbar

Vinson & Elkins LLP

Part IV: Direct lending

The direct lending landscape 109

in EuropeNerea Pérez de Guzmán

FTI Consulting

Trends in direct lending 119

Andrew Perkins

Sarah Ward

Macfarlanes LLP

Legal structuring of directlending deals in selectedEuropean jurisdictions

France 133

Jérémie Bismuth

Marie Dubarry de Lassalle

Olivia Locatelli

Caroline Texier

Gide Loyrette Nouel

Germany 141

Sacha Lürken

Wolfgang Nardi

Oded Schein

Kirkland & Ellis International LLP

Italy 149

Giorgio Cappelli

Andrea Martino

Giovanna Randazzo

Chiomenti Studio Legale

Spain 157

Íñigo de Luisa

Íñigo Rubio

Cuatrecasas, Gonçalves Pereira

Part V: Restructuring and workouts

Recent trends in European 167

cross-border restructuringsArturo Gayoso

Deloitte Financial Advisory

Schemes of arrangements: 175

theory and practiceGraham Lane

Iben Madsen

Willkie Farr & Gallagher LLP

Developments in the Europeanlegal framework for restructuring

France 199

Jérémie Bismuth

Marie Dubarry de Lassalle

Olivia Locatelli

Caroline Texier

Gide Loyrette Nouel

Germany 215

Sacha Lürken

Kirkland & Ellis International LLP

Italy 237

Giulia Battaglia

Antonio Tavella

Chiomenti Studio Legale

Spain 249

Cristóbal Cotta

Andrea Perelló

Fedra Valencia

Cuatrecasas, Gonçalves Pereira

4

Restructuring high-yield 261

bonds in EuropePaul Durban

Grégoire Hansen

Brown Rudnick LLP

The recast EU Insolvency 279

Regulation and its impacton distressed investing

James Bell

Douglas Hawthorn

Jeremy Walsh

Travers Smith LLP

Part VI: Taxation

Structuring the acquisition 295

and disposal of distressed debtRebeca Rodríguez

Cuatrecasas, Gonçalves Pereira

Luke Vassay

Milbank, Tweed, Hadley & McCloy LLP

About the authors 317

5

As president of Turnaround Management Association (TMA) Europe, it is a pleasure

to introduce Investing in Distressed Debt in Europe: The TMA Handbook for Practitioners

co-published by TMA Europe.

This book comes at a time where the European distressed debt market has

developed exponentially during the last few years and has experienced very

significant changes, including very relevant amendments to national insolvency and

restructuring laws throughout Europe, with the common goal of introducing

restructuring tools to enhance out-of-court and in-court restructurings. Furthermore,

attention to the non-performing loans market (which has experienced a dramatic

increase from 2010 to 2016) and direct lending is also provided, acknowledging the

importance and relevance that these fields of distressed investing have achieved in

Europe during recent years.

I am grateful to the consulting editor, Ignacio Buil Aldana, and the team of

contributors who have participated in this book and authored the different chapters

which capture the complexities and intricacies of the European distressed market.

These contributors, who represent some of the key European jurisdictions, are all

leaders in their field and have taken the time to share with us both their technical

knowledge of the matters discussed and the practical aspects they come across in

their day-to-day practice. I am sure that, as a result of this, this book will become a

practical reference guide for those seeking a better understanding of the commercial

and legal complexities involved in the European distressed market.

I want to finish this preface highlighting that this publication is part of TMA’s

dedication to corporate renewal and turnaround management, shared with more

than 9,000 TMA members who comprise a worldwide professional community of

turnaround practitioners. In particular, TMA Europe (which represents 12 European

chapters) has become the forum for the interchange of ideas across Europe in

connection with turnaround and restructuring matters. This book is yet another

example of our organisation’s commitment to innovation and progress in the law

and practice of restructuring and turnaround in Europe and in the cross-border

context.

Dr Lukas Fecker, TMA Europe President, owns a turnaround and distressed investment

boutique, he is a frequent speaker at sector conferences in Europe and the United States.

ForewordLukas Fecker

TMA Europe President

7

The European distressed debt market has experienced dramatic developments since

the financial crisis that began in 2007/2008. This book is a response to these

developments and aims to give an overview of the legal background and the

challenges and opportunities of investing in distressed debt in Europe, with specific

attention to certain European jurisdictions (France, Germany, Italy, Spain and the

United Kingdom). In this regard, our book focuses on what are the four key areas of

interest for distressed investors: distressed debt trading, direct lending, the non-

performing loan portfolio market in the context of bank deleveraging and the

European restructuring and workout framework.

1. Distressed debt tradingThe development of the European secondary loan market of par and distressed debt

(also known as impaired debt or sub-performing debt) during the last few years is

remarkable. ‘Distressed debt’ refers to those loans or credits with uncertain recovery

prospects due to the borrower either being in insolvency or in financial distress; this

debt being traded as a result at significant discount to face value. The market where

this type of debt is traded, once controlled by a small number of participants, is now

used by a diverse array of participants, ranging from investment banks to hedge

funds, pension funds or private equity houses.

Despite the uniformity provided by the Loan Market Association (LMA) terms

and conditions (which is currently the standard used by the market and is analysed

in depth in the “Anatomy of an LMA distressed trade transaction” chapter), the

European market is far from being uniform (both from a regulatory and legal point

of view) which becomes clear in the chapter “Overview of distressed debt trading in

selected jurisdictions”.

2. Direct lendingThe changes in bank regulation have led to a reduction of bank lending

opportunities for corporations and especially for small and medium-sized enterprises

(SMEs). This retrenchment of traditional banks in the business of lending has

resulted in a lack of sources of financing, providing the backdrop for the

development of an alternative lending market which has become a permanent

feature of the European market and is rapidly evolving to become an asset class with

over 300 direct lending professionals active in the European market.

This alternative lending market, commonly known as direct lending, refers to

PrefaceIgnacio Buil Aldana

Cuatrecasas, Gonçalves Pereira

9

lending provided by non-traditional sources of financing (ie, credit funds) with

different lending strategies, such as mezzanine financing, distressed-debt investment

or capital relief to name a few. This book provides an overview of the current state of

the direct lending market as well as a chapter undertaking an analysis of the trends

in the European market relating, for example, to unitranche financing or ‘cov

loose’/’cov lite’ financings, as well as a review of the regulatory and legal regimes

applicable in different European jurisdictions.

3. Non-performing loans marketReducing non-performing loans in the banks’ balance sheet has become a hot topic

for a broad range of politicians, policymakers and investors. The regulatory focus on

the level of non-performing loans in the European banking system is the result of the

concerns that these loans hold down credit growth and reduce economic activity.

These concerns and increased regulation – the European Central Bank driven

single supervisory mechanism, capital requirements for banks and insurance

companies as a result of Basel III, Solvency II and, in the future, IFR39 – continue to

stimulate deleveraging, and a strong European non-performing loans market has

developed, with the United Kingdom and Ireland heading the tables of non-

performing loan transactions and Spain, Benelux the Nordic countries and central

and eastern Europe following their lead. This activity is expected to remain high in

the next couple of years, and new countries are expected to open up the non-

performing loan market in the coming months with their banks becoming active

participants (eg, Italy).

Moreover, some European countries have set up so-called bad banks (such as

Nama in Ireland or SAREB in Spain) which, as explained in the chapter “Bad banks

and their role in the deleveraging process in Europe”, is a well-established banking

crisis management tool aimed at facilitating the management of legacy assets and

their orderly divestment, turnaround or liquidation. These bad banks also play a key

role as active participants in the distressed-debt markets.

4. Restructuring and workoutsThe scheme of arrangement has been one of the restructuring tools most favoured by

market participants during the last few years. Debtors from continental Europe have

used this tool to restructure their debt and implement their restructurings, taking

advantage of a flexibility that their national restructuring and insolvency regimes did

not provide to them. This book acknowledges this and provides a detailed focus on

the scheme of arrangement and its latest developments. We also look into the

dynamics of high-yield bond restructuring and the influence that the scheme of

arrangement and the US Chapter 11 have in the restructuring process.

In this regard, different European countries have enacted amendments to their

legislation, introducing new frameworks to facilitate in-court or out-of-court

restructuring, in what can be seen as a race to catch up with the English restructuring

framework and prevent the ‘escape’ to English law of many debtors, creditors and

their restructurings.

These amendments, which range from the Spanish homologación judicial to the

Preface

10

Italian concordato preventivo, have also introduced changes in the new money regime,

debt-for-equity swaps and other tools with the purpose of enhancing corporate

restructuring and facilitating the viability of distressed debtors. All these

developments are addressed in this book, and we provide an overview of the many

legal changes introduced in recent years in the European market.

Now we have explained what this book is about, two things need to be raised at

this point, without which the preface of this book would not be complete. First,

Brexit. Brexit is changing, and is going to change further (once the formal exit

process is formally started and eventually concluded), the relationship between the

United Kingdom and the rest of Europe, both politically and economically. While we

have included references to Brexit throughout this book, it will be only in the

medium term when we will be in a position to assess the real impact that Brexit will

have in the European distressed investing market. At this point, however, to try and

picture the impact of Brexit is highly speculative and while all political signs seem to

point to a ‘hard’ Brexit, it is difficult to have much clarity on what this will really

mean if this is finally the case.

Secondly, it has not been possible to cover all the countries that comprise Europe

and have a say in its distressed market. We acknowledge that chapters on the Nordic

or central and eastern European countries may be missing in this first edition of the

book; however, while we anticipate that this book may move into future editions

that will allow us to analyse these countries as well, we also hope that as it stands

this book serves as a valuable introduction to the European distressed market and its

key features.

Finally, I would like to extend my gratitude to all the contributors for their

support and cooperation in the preparation of this book, to the Turnaround

Management Association Europe for their kind sponsorship, and to our publishers

for all their help in the completion of this book. Finally, thanks as ever to my wife.

Ignacio Buil Aldana

Cuatrecasas, Gonçalves Pereira

El Tormillo / London

Ignacio Buil Aldana

11

1. IntroductionThe concept of distressed investing in Europe is not new. We have operated in an

environment of extreme financial volatility (both boom and bust) from a debt

market perspective since the early 1980s, accelerated by the emergence of the

European high yield bond market in 19971 which heralded a new wave of value

investing in Europe. This volatility is not a surprise, one might argue, given the rapid

growth of the leveraged buyout market, the subsequent failure of many companies

in the mid-1990s and later the boom-bust cycle in the technology, media and

telecommunications market at the turn of the 20th century.

Since the financial crisis in 2008 the European distressed debt market has become

more dynamic as European and US banks, many of which made significant profits

driving leveraged buyout volumes in the mid-2000s, were forced to unwind balance

sheets of long positions in leveraged buyout loans, and some of the most complex

structured products including mortgage-backed securities and collateralised debt

obligations. Arguably US banks (operating in Europe) suffered more heavily than

their European counterparts who held onto assets for longer, rather than completing

a mark-to-market of their loan books and suffering catastrophic losses at the height

of the crisis.

We have witnessed a substantial increase in non-performing loan portfolio

trading since the start of the Eurozone crisis, as investors flocked to Europe seeking

yield and targeting banks now subject to increasingly stringent capital adequacy

requirements and more onerous regulation. The European Central Bank’s asset

quality review in 2014 identified €879 billion of troubled loans held by 123 banks

in the Eurozone’s 18 countries, prompting a raft of loan disposals and a flood of

capital into Europe. This is hardly a surprise given the growth of the derivatives and

securitisation markets in the mid-2000s, as assets on bank balance sheets grew from

€18 trillion in 1999 to €45 trillion in 2008.

What is perhaps more surprising is the fact that the speed of bank deleveraging

since 2008 (and therefore the opportunity for distressed returns) has not been as

rapid as many commentators originally predicted. There has been a great deal of

‘amend and extend’, in contrast to previous cyclical downturns. However this is

Investing in distressed debt in Europe: an overview

Tom Cox

Damian Malone

Mark Sinjakli

AlixPartners

13

1 Edward Altman, “The Anatomy of the High Yield Bond Market”, September 21 1998: pages.stern.nyu.edu/~ealtman/anatomy.pdf.

more likely to have been the result of under-provisioning by banks and an inability

to absorb losses on disposal of assets rather than through a lack of appetite itself,

particularly since such lending ties up capital and prevents it from being recycled

into other opportunities. The year 2015 witnessed a substantial uptick in activity

with €140 billion of European loan portfolio transactions recorded, up 50% (in

absolute value terms) on 2014, but this was largely driven by non-strategic

performing residential mortgage portfolios in the United Kingdom rather than non-

performing loans.2

On the other hand, deleveraging of Italian bank balance sheets accelerated, with

€11 billion of unsecured/non-performing loans trading at large discounts to par.3 In

the context of an estimated €1,180 billion of non-performing loan stock held by

European banks, less than 30% had traded by the end of 2015, but the speed of

disposal is likely to accelerate in the coming years as lenders have continued to

rebuild balance sheets and are now generating earnings capable of absorbing losses

on non-core portfolios. In the last quarter of 2016 pressure is increasing on Spain’s

‘bad bank’, SAREB, as well as its commercial banks, to recognise significant

impairments in respect of their loan books, which in turn may lead to price

alignment between buyer and seller, and allow for an uptick in transactions.4

The level of genuine distress experienced since 2013 has been relatively muted,

driven by ultra-low interest rates and capital availability across a variety of markets,

both debt and equity, which provided solutions (albeit including amend and extend

in some cases) for the most stressed borrowers. At the same time, looser credit

protection in loan documentation (driven by a shift towards covenant-light bond

financings in Europe) suppressed distressed trading volumes as return-hungry

investors enabled borrowers to avoid or defer complex workouts.

However, the current European distressed industry is one which still presents a raft

of opportunities, given the volatility that threatens the European economic system

and a general feeling of anxiety across global markets. The United Kingdom’s vote to

leave the European Union in the June 2016 referendum has triggered turmoil in the

UK, European and global markets. Only time will tell what the medium-term impacts

will be, with most market commentators predicting a period of uncertainty and in

many cases recession. In the hours after the result was announced, the governor of the

Bank of England sought to reassure the UK population, asserting the ability of the UK

economy to cope with such shocks and to return to stability, yet before the vote he

had predicted that recession was a possible outcome of a Brexit vote.

Indeed, such volatility is playing out during a period in which Europe has also

witnessed the most extensive monetary policy stimulus in living history, through

quantitative easing, which rather than establishing a robust economic platform has

delivered only anaemic growth across the continent. As the Chinese market

continues to slow down and restructuring activity picks up in the United States

(largely driven by low oil prices) it is likely that the European market will again

Investing in distressed debt in Europe: an overview

14

2 PwC, Portfolio Advisory Group Market update – Q4 2015.3 PwC, Portfolio Advisory Group Market update – Q4 2015.4 www.auraree.com/real-estate-news/bank-of-spain-puts-pressure-on-banks-to-speed-up-property-sales/.