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As explained in a previous comment for EStAL (see issue 2/2010, p. 278), that scheme, which basically consisted of an “Agreement of the Managing Board of the newly created Fondo de Restructuración Ordenada Bancaria” (Fund for the Orderly Restructuring of Banks, or simply “FROB”), set out the conditions and criteria ruling the intervention of the FROB in the integration processes undertaken by financial entities. The scheme was initially limited in time until 30.6.2010, but was finally extended until 31.12.2010.

However useful that scheme has proved to be, it has been –only- the first step of the Spanish authorities’ initiative to restructure and reinforce the financial sector (especially the saving banks or Cajas de Ahorro) in order to drive it back to competitiveness and market conditions.

The implementation of the Recapitalization Scheme (“FROB I”)

According to the information provided by the Bank of Spain, the scheme permitted a first and relevant restructuration of the saving banks. Up to 12 integration processes took place in its framework, involving 38 out of 45 saving banks active in Spain. As a result, the number of saving banks active in Spain was reduced from 45 to 18.

Most of these integration processes required State aid from the FROB (7 out of 12). Under the approved scheme, the FROB was entitled to subscribe perpetual convertible preference shares to be issued by financial entities provided that: (i) such entities were fundamentally sound in the meaning of the Annex 1 of the Commission’ Recapitalisation Communication (i.e. the amount of aid required did not exceed 2% of the RWA of the resulting entity), (ii) they would carry out an integration process, and (iii) they would accept certain behavioural and structural commitments. Entities receiving state support had to draft a viability plan to be approved by the Bank of Spain and eventually communicated to the Commission.

Other 5 integration transactions were carried out without the need of public support. 

The restructuration processes led to mergers between saving banks (including the creation of the so-called SIPs –or sistemas insitucionales de protección-), which were considered necessary to reduce the exposure of the saving bank to risk of insolvency.

 Spain increases the level of capital ratio for its remaining saving banks (“FROB II”)

In order to restore the confidence in the financial market, the Spanish authorities, by means of Royal Decree-Law 2/2011, decided to increase the requirement of capital ratio to saving banks, from an 8% to a 10%. In order to help entities unable to raise capital from the market to comply with this new standard, the Royal Decree-Law 9/2009 was modified so that the FROB recapitalise such entities, through the subscription of ordinary shares. This new instrument has been called “FROB II” (by contrast with the “FROB I”, which consisted of preference shares).

Since the Commission’ Communication on the application, from 1 January 2011, of State aid rules to support measures in favour of banks in the context of the financial crisis laid down the obligation for any entity receiving aids to engage in a restructuring process (regardless of the amount of aid received), this new mechanism could not be shaped through an aid scheme. Therefore, every operation had to be notified on a case by-case basis to the Commission for its approval.

According to the modified wording of articles 9 and 10 of RDL 9/2009, implemented by the agreement of the Managing Board of the FROB of 12th July 2011, laying down the conditions under which the FROB could subscribe ordinary shares of the FROB, such recapitalizations will take place under the following conditions: a) that the subscription of shares is performed at market level. To that purpose, provided that no significant purchase of shares have been carried out during the 5 months previous to the operation, the FROB will request the opinion of three independent experts; b) the FROB will automatically acquire –and exercise- all the political rights deriving from the shares corresponding to the capital subscription;  c) the recapitalized entity will be able to buy-back the shares subscribed by the FROB or to find private investors willing to do so in one (or exceptionally two) year. The price of that buy-back would have to reflect an appropriate remuneration for the FROB. In case such a buy-back is not possible, the FROB will sell its stake in the entity within a period of 5 years, through a public, transparent and competitive tender; and d) the Spanish authorities will submit to the Commission, for its approval, a Restructuring Plan in line with the content of Annex I of the Restructuring Communication, which will also include both behavioural and structural commitments. That plan will be submitted 6 months after the recapitalisation to the latest.

Under the FROB II framework, three former saving banks (namely UNNIM, Catalunya Banc and NCG Banc) requested public support from the FROB, with the result of UNNIM being now fully owned by the FROB and the other two entities with public stakes amounting to around 90% of their capital. The deadline for Spain to submit to the Commission the respective restructuring plans finishes at the end of March (the three recapitalisations were approved by the Commission the 30th September 2011). Therefore, it is expected that the Commission will shortly start its analysis of the restructuring of the said entities. 

The rescue of financial entities

Unfortunately, some entities revealed financial weaknesses which made it urgent for the FROB to rescue them, instead of using either for FROB I, or FROB II instruments.

To that purpose, article 7 of the Royal Decree Law 9/2009 enables the FROB to intervene a financial institution when its financial stability and viability is under risk. Should FROB intervene pursuant to article 7, the Bank of Spain will replace the management of the entity and it will be governed by FROB. The latter will draft a detail report with the situation of the entity and will prepare a restructuring plan. The restructuring plan will include the possibility of reselling the entity –as a whole of part of it- to third parties through a public tender. To close the transaction, new State aid might be granted, for instance, Assets Protection Schemes (EPAs).

Leaving aside the rescue of Caja Castilla-La Mancha, which was carried out before the creation of the FROB, the FROB has so far rescued three entities.

The first one, in 2010, was CajaSur. CajaSur's failure to meet regulatory capital requirements (at that moment, 8% of risk-weighted assets solvency ratio required by Spanish banking legislation) triggered the need for a rescue and an urgent recapitalisation. On 22 May 2010, following the failed merger with Unicaja (another saving bank), the entity was placed under the administration of the FROB. The Commission approved two rescue aid measures in favour of CajaSur (EUR 800 million capital injection and the EUR 1.5 billion credit facility). In July 2010, Bilbao Bizkaia Kutxa (BBK) acquired CajaSur following an open and public tender and eventually, the Spanish authorities submitted the corresponding restructuring plan to the Commission for its approval by the Commission. Even though BBK received an Asset Protection Scheme (“EPA”) –as requested in its bid-, the Commission considered that since that public support was the result of a public tender and did comply with the Commission’s practice, no State aid to BBK could be found. However, it imposed some commitments affecting the transferred activity.

More recently, in 2011, the FROB had to rescue and place two other financial entities, namely Banco CAM and Banco Valencia under its administration. Both measures were approved by the Commission as rescue aid and in compliance with the Restructuring Communication, Spain committed in both cases to submit a restructuring plan within six months, addressing the entities’ return to long term viability, an appropriate burden sharing of the rescue and commitments to address distortions of competition.

As regards the Banco CAM, the intervention of the FROB was triggered by CAM’s (a saving bank at that time) failure in June 2010 to integrate with 3 other saving banks for the creation of Banco Base. As a result, CAM found itself in urgent need of raising additional capital to meet the 10% of solvency ratio requested by Bank of Spain. Proving unable to do so, in May 2011 the FROB intervened pursuant to Article 7 of the Royal Decree-Law 9/2009 and accordingly notified to the Commission the rescue of the entity the 26 June 2009, which included a recapitalization (rescue aid) amounting to EUR 2,800 million to keep the entity afloat. FROB also granted to CAM a EUR 3,000Million liquidity aid. Immediately after, The Spanish authorities carried out a public tender to sell Banco CAM, being the provisional awardee (waiting for the Commission’s approval) Banco Sabadell, which also required an EPA as condition for the acquisition. The restructuring of the entity will be closed once the Commission approves the restructuring plan, which has already been notified.

Banco de Valencia, on its side, also failed to meet regulatory capital requirements and its liquidity obligations. That circumstance forced the FROB to intervene under article 7 of RDL 9/2009, providing the entity with both the necessary capital (in order to achieve the capital principal ratio required by Spanish legislation) and liquidity and placing the entity under its administration. Thus, the FROB notified ex ante to the Commission the rescue of the entity, which included rescue aids by means of a recapitalization amounting up to EUR 1 billion of ordinary shares and a liquidity facility (“ELA”) up to EUR 2 billion. Following the rescue of the entity, the Spanish authorities committed to submit a restructuring within 6 month. At the time being, the Spanish authorities are preparing such a plan, which will involve the public sale of the bank through a public tender. Most probably, the purchase of the entity will be accompanied by the granting of an EPA.

The final turn of the screw? The recent Royal Decree-Law 2/2012

In February of 2012, the Spanish authorities approved the Royal Decree-Law 2/2012 which, apart from raising –again- the capital requirements of financial entities in order for them to comply with the requirements set out by the European Banking Authority (EBA), it amended once more the Royal Decree-Law 9/2009. The main novelties brought about by the new legislation are twofold: First, it reinstitutes the possibility for the FROB to subscribe capital instruments (by means of contingent convertible instruments) of entities to be engaged in integration process (FROB I alike). Obviously, in the absence of an approved scheme, such a recapitalization would entail the submission to the Commission of a restructuring plan of the entity, in accordance with the Restructuring Communication. Secondly, it enables the FROB to confer an asset protection scheme (“EPA”) to the acquirer in order to ease the sale of its stake of ordinary shares in recapitalized entities (upon request of the bidders). Until now, this instrument was only available when the recapitalized entity had been rescued under article 7 of RDL 9/2009.

With this last reform, the Spanish authorities attempt on the one hand to foster the restructuring of the financial sector, by promoting further integration among the remaining saving banks and on the other to ease the exit of the FROB from the recapitalized (nationalized) entities, hence from the market, by selling them back to sound entities through an open and competitive tender.

This is it or will there be another wave of mergers?

It is indeed too early to measure the result of this last reform put forward by the Spanish authorities, while debates between financial experts on whether the restructuring reform will now be completed or whether the State will promote another wave of mergers is being spurred in the economic media.