Private practice response

Author: | Published: 1 Nov 2007
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Tom Young
Asia editor

The overarching theme when you cross-examine the responses is one of in-house teams struggling to keep up with their bank's growth in the region. How far would you agree with this?

Paul Browne: The Asian market has grown a lot in recent years with an increase in the complexity of financial products, as well as investors becoming more sophisticated. That's naturally led to a higher workload for in-house teams and a general increase in the need for expertise. So it's not surprising that banks are finding in certain areas that they are pushed. It varies from house to house. Some have been more pro-active in terms of their investment in this than others.

Do you think it's a case of the legal teams trying to keep up with the front office, or the disparate nature of the region?

PB: That's a good question. As you say, this is a disparate region. I had a meeting with a group of in-house lawyers today that reflected that: there's a small group of them, and they are covering the whole Asia-pacific region, excluding Japan. It's inevitably going to be difficult for them, especially given that the legal regimes are so different.

"Be careful what you wish for. Those that have experience of uniform, pan-European legislation know how difficult it is to adapt that to local markets"
Charles Mayo

Charles Mayo: In the equity capital markets it's not unusual to have an offshore holding company, so you're inherently dealing with at least two legal systems. If you contrast that with Europe, and its EU-wide directives, there's a huge difference in Asia, especially when taking into account the differing market practices in each jurisdiction.

The responses suggested that a European-style, Asia-wide directive is unlikely for the time being. Do you think it's an achievable goal in a region with such disparate legal systems?

CM: Be careful what you wish for. Those that have experience of uniform, pan-European legislation know how difficult it is to adapt that standard approach to local markets. It can produce a one-size-fits-all, expensive, cumbersome form of regulation. There will be a convergence in Asia of best practice over time, but the question for the banks is whether that will improve or lower overall standards.

PB: It's hard to see there being an overarching pan-Asian directive in the foreseeable future. However Asian jurisdictions are striving, with various degrees of success, to achieve international standards, so harmonisation is unlikely to be achieved on an ad hoc basis.

Eighty-three percent worried that their in-house teams could fall into market practice. Does that surprise you?

PB: Many regimes in Asia, China for instance, just aren't as mature as the US or Europe. There will be a concern that international standards aren't filtering through to Asia.

How do you think law firms can ease this fear?

CM: We need to provide perspective between international best practice and local market practice. But on a note of caution, one shouldn't assume that international best practices are always stricter than local. Hong Kong, for example, is proposing quarterly financial reporting on a revenue and a balance sheet basis at a level of detail that's far more demanding than a UK main market company would be used to.

What is your view on whose job it is to improve retail investor knowledge?

PB: It is the role of regulators to ensure any documentation being distributed to investors complies with certain minimum standards, but to simply say it's the role of the regulators isn't sufficient. Banks need to take ownership of what they are selling and accept responsibility for it. Increasingly we should be viewing this as something that's a global problem and imposing a global standard.

CM: A bank that relies on a regulator to explain the risks will find itself justifying its conduct to the same regulator when something goes wrong. At that point, the regulator's not going to be very sympathetic.

Almost a quarter of respondents argued it was the job of the regulators to do this. Do you agree? Or would you say this is passing the buck?

PB: I think it is dangerous to rely on the regulators without product providers and distributors taking genuine ownership of their role in the selling of those products.

What role can external counsel play?

PB: As a minimum, there are two or three key things we can do. First, while it may be self-evident, we need to draft documentation clearly, and setting out all the risks for the investor as clearly as possible. Outside of that, a key element is our role in educating the bank in the risks associated with the whole marketing and sales process, not just on the documentation side. For example, ensuring mechanisms are in place so that the sales guy doesn't go off and spin a good story to help him sell the product. We need to assist the in-house at banks to help them implement these procedures and manage their marketing process.

CM: On the other hand, you can get to an extreme point where an abundance of caution makes people hide behind too many risk factors, so investors can't distinguish between general risks and real risks.

"The main driver for covenant-lite loans has fallen away"
Paul Browne

PB: Language is a classic problem. You may be documenting the deal in English, but is it really reasonable that you should explain it to an investor in English, or should you be explaining it in the local language? And with the contractual documentation more emphasis must be placed on investors being given adequate time to review the terms of the deal. These are the sort of processes and protections that need to be put in place. I'd be worried if they aren't.

Within structured products, 68% of respondents thought that Asia was still following products and trends in Europe and the US.

This surprised me. Unquestionably, Asia has become more and more of an innovator. For a number of years now, I have had regular calls with colleagues in London to discuss our global structured products practice and a few years ago I felt Asia was lagging behind in terms of innovation, but now when I have these calls I don't feel that at all. The fact that almost 70% of respondents said Asia was still a follower was disappointing.

China topped every poll both in opportunities (M&A, specifically) and fears. How have you found dealing with the country and its regulators over the last two or three years?

The regulators are definitely trying to grasp these new products. They're struggling with some, and trying to place them in the context of their own legal regime. But there has been concerted effort, and that's one of things that makes China so exciting. It's harsh to accuse the regulators of inaction. Regulatory measures come out almost every day. It's fast paced. However, for China to be at the forefront of international finance there needs to be an increase in international investor confidence. There are still big uncertainties with China's legal system, and we can't get away from that.

CM: On the equity side, it's slightly different. Looking at the rise in the Shanghai stock market, China is facing a conundrum: do you dampen that rise by restricting investors from investing abroad, and by preventing Chinese companies listing abroad, or do you stand it on its head and allow more domestic Chinese to invest overseas and more companies to list outside the PRC. There is a risk that the question will only be answered when there is a large downturn.

Have you come across the so-called invisible $1 billion threshold for PRC companies wishing to list in Hong Kong?

CM: Broadly speaking, if you look at the PRC companies that have listed, they do follow that pattern – a Shanghai listing first, unless they have historical factors or an overseas holding company. Which takes me back to my previous point: does this help or hinder?

Do you think that liberal lending techniques like covenant-lite loans can flourish in Asia as they did in the US and UK before the markets' downturn?

PB: The main driver for covenant-lite loans has fallen away. Although it's too early to predict how things will go after the credit crunch, if you had to put me in one camp I think I would tend towards thinking that covenant-lite loans are unlikely to flourish in the foreseeable future.

There was quite a split between respondents regarding disclosure requirements of Chinese companies. Quite a few complained that disclosure was largely ignored. How do you feel about them?

CM: You have to put the answer in the context of the pace of change and the rapid development of regulations in China. The goal posts are moving around the field the whole time.

PB: Inevitably there has to be an education process for Chinese companies as to the level of disclosure that's expected by international investors. When putting together an offer document, senior management needs to understand its purpose and make sure it is a fair reflection of the company itself. The market has developed very quickly, there has been a clamour for China exposure; there has been less focus on disclosure than there should be, so it is not at all surprising that education is required.

There was a mixture of responses as to what obstacles banks faced or expected to face when conducting M&A deals. What do you see as the greatest block, and why?

CM: I was surprised that people don't see management culture as one of the most important obstacles to M&A. That's either because it isn't, or because it's a fact of life and people take it for granted.

Any other thoughts?

CM: Underlying all these questions is a challenge for Hong Kong, which is to maintain high standards of regulation while keeping its competitiveness among other Asian markets. And the answers as well as the pace of change indicate that the dilemma is becoming more acute.

PB: Within structured products, Asia needs to stay plugged into Europe and the US and develop alongside these markets, in particular Europe. There's a challenge within the industry here to ensure that it puts together initiatives in conjunction with what's happening globally, so structured products are co-ordinated on an industry, global basis as much as possible. That's obviously easier said than done, but as a general principle I hope structured products will develop here as they have in Europe and critically in conjunction with the developments in other mature markets.