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Summary of Guidelines on Instruments Referred to in Article 57(a) of the CRD (CP 33)

Background

• CRD II introduces explicit rules for the treatment of instruments eligible as capital and requires their inclusion in institutions' original own funds without limits.
• These amendments must be transposed into Member States' national law by 31 October 2010 and applied from 31 December 2010.
• CP 33 is a response to the request in Article 63a(6) of CRD II for the CEBS to develop guidelines to ensure convergence of supervisory practices regarding instruments referred to in Article 57(a).

Objectives of the Draft Guidelines

• To achieve a common understanding among competent authorities in the EU on the implementation and application of the new CRD provisions.
• To foster convergent transposition of these rules into national laws.
• To increase transparency for market participants.

Definition of Capital in the Sense of Article 57(a) and Recital 4

• Article 57(a) defines capital as equity capital paid up, including share premium accounts, which fully absorbs losses in going concern situations and ranks after all other claims in bankruptcy or liquidation.
• Recital 4 clarifies that original own funds under Article 57(a) should include all instruments considered as equity capital under national law, rank pari passu with ordinary shares during liquidation, and fully absorb losses on a going-concern basis pari passu with ordinary shares.
• Instruments with preferential dividend rights (non-cumulative) may be included if they meet the above criteria.
• Mutuals and co-operative societies may include instruments deemed equivalent to ordinary shares under their legal structure.

Criteria for Capital Instruments (Article 57(a))

• Criterion 1: The instrument must be equity capital contributed by legal owners under national law and recognized as equity under accounting and insolvency standards.
• Criterion 2: The instrument must be fully paid. Any financing provided to shareholders to facilitate subscription is not considered capital for regulatory purposes.
• Criterion 3: The instrument must be directly issued and not through Special Purpose Vehicles.
• Criterion 4: The instrument must be perpetual and not redeemable outside of liquidation, unless allowed by national law in a discretionary manner.
• Criterion 5: There should be no expectation of buy-backs; any buy-backs must be approved by competent authorities.
• Criterion 6: Capital instruments must ensure full discretion over dividend payments, allowing institutions to preserve cash without triggering an event of default.
• Criterion 7: Dividends must be paid from distributable items, non-cumulative, and not tied to the initial capital amount.
• Criterion 8: Capital instruments must fully absorb losses in going concern situations, proportionally and pari passu with other Article 57(a) instruments.
• Criterion 9: In liquidation, capital instruments must rank after all claims and pari passu with ordinary shares, with a claim proportional to their share of capital.
• Criterion 10: Capital instruments must not be provided with guarantees, pledges, or other credit enhancements that enhance their seniority.

Permanence of Capital Instruments

• Redemptions and buy-backs that undermine the permanence of capital instruments require prior supervisory approval.
• Such actions must not be announced to holders before approval is obtained.
• If sufficient certainty is present (e.g., public announcement of redemption intention), the estimated amount to be redeemed or bought back may be deducted from original own funds.
• Cooperatives and mutuals may reject redemption requests, and competent authorities may refuse or limit redemptions.

Flexibility of Payments

• Flexibility of payments is defined as the right of the issuer to decide whether and how much to pay dividends, especially to preserve the institution's financial and solvency position.
• No dividend pushers or stoppers are allowed, and all Article 57(a) instruments must be pari passu with each other.

Loss Absorbency

• Instruments must be able to absorb losses fully and immediately in going concern situations.
• In liquidation, they must rank subordinated and have a proportional claim on residual assets.
• Cooperatives and mutuals may have caps on redemption amounts if applicable to all Article 57(a) instruments, without privileges.

Next Steps

• The final guidelines on Article 57(a) instruments will be based on the feedback received on CP 33.
• Responses are still welcome until 31 March 2010.
• Possible evolutions in the global regulatory framework will be considered in the final guidelines.
• The guidelines are expected to be endorsed by CEBS and published in June 2010.

Thank you for your attention.
Questions?
CEBS
Committee of European Banking Supervisors