Until the financial crisis that started in September 2008,
many companies chose debt as the best source of capital. This
enabled them, by paying reduced interest for the capital
borrowed, to develop investment schemes that in several cases
resulted in record profits for shareholders. After September
2008, liquidity constraints implied in certain cases a complete
or almost complete closure of debt markets, as a number of
credit institutions, mainly banks, were unable to provide
capital even to the most creditworthy clients. Portugal and
Spain are among the countries which have been most severely
suffering the consequences of the financial crisis.
The crisis had consequences on the borrowing capacity of the
Portuguese State, leading to a request for financial aid to be
submitted within the EC, the European Central Bank and the
International Monetary Fund (IMF) in April 2011. On May 3 2011,
a memorandum of understanding was executed between Portugal and
the rescuing entities. The memorandum determined an accelerated
privatisation programme, covering the sectors of transport
(Aeroportos de Portugal and TAP), energy (EDP, GALP and REN),
communications (Correios de Portugal) and insurance (Caixa
Seguros e Saúde). Through this programme, the Portuguese
State estimates to receive €5.5 billion ($7.88 billion) by
the end of 2012.
In order to increase the liquidity of the banking system,
the memorandum establishes the obligation of all banks in
Portugal to reach a core Tier-1 capital ratio of 9% by end-2011
and 10% by end-2012 at the latest.
It is also worth mentioning the restructuring of the Spanish
financial system in the past months. Due to the fact that
certain financial institutions, particularly savings banks,
struggled to cope with the crisis, given their exposure to the
Spanish real estate market several savings banks were urged to
merge and to be converted into banks.
In order to fully understand the extent to which the
financial crisis has affected these countries we only need look
at the 10-year bond differential between Portugal and Spain in
comparison with Germany. As of May 31 2011, the bond
differential between Spain and Germany amounted to 231 basis
points, while that between Portugal and Germany amounted to
around 700 basis points.
With debt markets closed, companies that needed funding to
invest or simply maintain their day-to-day businesses had to
seek other sources.
In this regard, while Portuguese companies mainly went in
the direction of issuing new equity, Spanish companies opted
for other methods, such as convertible bonds and high-yield
bonds as alternatives to the traditional means of obtaining
With regard to Portugal, the financial crisis led to a
notorious change in the way companies raise capital, mainly
because the debt markets in Portugal plunged in 2008 and have
remained a steady bear market since then, thereby increasing
the importance of equity in capital structure of companies.
Despite being more costly, equity has the advantage of
granting more security to companies' stakeholders as it not
only creates a buffer in the balance-sheet but also shows the
shareholders' higher commitment to the company's business.
In connection with Spain, companies have opted to issue debt
financial products: firstly, the issuance of convertible bonds
and, secondly, high-yield bonds (low-credit-rating debt) for
those companies without investment grade (company bonds' credit
quality rating which entails a relatively low risk of
Convertible bonds have the advantage of being hybrid
instruments between debt and equity which ease the company's
search for capital. Furthermore, there have recently been
amendments to Spanish regulations on the accountability of
these financial products by financial entities in order for
them to be included as Tier one capital.
Finally, as mentioned previously, high yield bonds, which
made a remarkable worldwide recovery in 2010, are a kind of
financial product that has enabled companies without an
investment grade to obtain funds from the general public,
although having to pay a higher yield to their bondholders than
to companies issuing general bonds because of higher levels of
Share capital increase
The legal framework for the issuance of equity by public
limited companies (sociedades anónimas) is
subject to the provisions of the Portuguese Companies Code
With regard to the capital increase modalities, there are
two main ways of raising equity:
(i) through capital contributions in cash or in kind from
shareholders or new investors; and
(ii) through the incorporation of profits.
Regarding shareholder's rights on share capital increases,
article 458 of the PCC states that in capital increases through
capital contributions in cash or in kind, shareholders may
subscribe new shares with a pre-emptive right over
If a company issues several categories of shares, all
shareholders will have equal rights of preference in the
subscription of new shares, be they ordinary or from a specific
category, the right of preference will primarily be conferred
upon the holders of shares from the same category, and other
shareholders will only be entitled to subscribe these shares
from the category not subscribed by those having preferential
As regards the necessary majority to approve capital
increases in public limited companies, article 386 of the PCC
states that a majority of two-thirds of the shareholders
present in the meeting is required to approve a capital
increase. Moreover, pursuant to article 383.2 of the PCC,
shareholders representing at least one-third of the share
capital must be present or represented at a shareholders'
meeting in order to approve a share capital increase on first
call. On second call, the company may adopt resolutions
regardless of the number of shareholders present or represented
and the capital which they represent.
Until the publication of Decree-Law 49/2010 of May 19, which
amended the PCC, the existence of a nominal capital was
mandatory. In fact, article 298 of PCC established, before
Decree-Law 49/2010, that shares should not be issued for less
than their par value.
The reasoning behind this provision was to avoid a new
investor from becoming a shareholder of the company having paid
less in proportion to other shareholders. Companies, however,
started seeing this restriction more as a burden than as
protection. Indeed, when a company's equity was lower than its
nominal capital, it was simply unable to raise equity from new
shareholders, as no one would be interested in acquiring a
share for the nominal value when its book value was lower.
In order to avoid this restriction, companies started to
develop complex and occasionally costly mechanisms that enabled
them to issue equity under the par value. These methods are
exemplified by the coup d´accordéon
operation that involves a capital reduction in the first stage
and a capital increase in the second.
As it became clearer that the obligation to issue shares at
a par value was becoming a barrier to companies' funding,
jurisdictions started to promote the introduction of no-par
shares in articles of association, as Portugal did in 2010.
Decree-Law 49/2010 amended article 298.1 of the PCC, which
now states that shares will not be issued for less than their
par value and in the case of shares with no-par value, for less
than their issue value.
Aiming to explain the nature of the issue value, article
298.3 of the PCC establishes that if the issue value of an
issue of no-par shares is lower than the issue value of a
previous issue, the board of directors will have to draft a
report on the issue value set and on the financial consequences
of the issue for the shareholders.
Despite this requirement, the implementation of this
Decree-Law in the Portuguese legal system is expected to be
very successful among companies, especially taking into account
the actual economic and financial outlook and the advantages
that this new regime brings to companies with weak balance
At this stage, and although it is still too early to be able
to conclude whether or not this mechanism is likely to promote
equity raising, there is an increasing
number of public companies, including some in the Portuguese
Index PSI-20, which have already decided to change the nature
of their shares to no-par shares, signalling the effective
benefits of this regime for corporate finance.
Another source of funding for companies is the issue of
preferred shares, which pursuant to article 341.2 of the PCC
entitles shareholders to receive a priority dividend of not
less than 5% of the respective par value, as the case may be,
to be taken from the profits which may be distributed among
shareholders, as well as to the priority redemption of their
par value or issuing value in the event of the company's
According to article 341.3 of the PCC, non-voting preferred
shares will, apart from the rights specified in the previous
paragraph, confer all rights inherent to common shares, except
the right to vote.
In relation to the distribution of dividends, there are
certain particularities in the Portuguese framework of
- Article 342.2 of the PCC states that any priority
dividend which is not paid within the financial year must be
paid within the next three years, before the dividends for
those years, provided that there are distributable
- Pursuant to article 342.3, if the priority dividend is
not fully paid during the two financial years, the preferred
shares become shares carrying the right to vote and will only
lose this right the year after that in which the priority
dividends in arrears are duly paid.
Raising of capital by financial entities
As mentioned above, from the start of the financial crisis
Portugal felt the consequences of liquidity constraints.
Interest rates on corporate borrowing soared and debt markets
shut out many once creditworthy companies, thereby implying the
recourse to equity financing.
In Portugal, credit institutions are opting to raise equity
in order to comply with the specific capital requirements on
Tier one and Tier two ratios, creating equity buffers in their
balance-sheets and decreasing the proportion of debt in their
Moreover, shareholders that generate profits are consciously
deciding not to distribute the annual profits using them
instead to decrease leverage and increase the company's share
capital through the creation of reserves.
Besides these two ways of corporate financing, there are two
other examples of financial engineering that large Portuguese
banks have been using to raise capital: swaps of subordinated
debt to equity; and the issue of bonds secured by the
One of the solutions found by credit institutions in
Portugal to raise capital was through swap operations according
to which subordinated debt was converted into equity, thereby
changing their capital structure and strengthening their
In fact, apart from the conditions under which these junior
debts were issued, the fact is that even if they are
subordinated, it implies not only a decrease in the company's
general rating but also a decrease in the rating of each
individual issue of debt, thereby causing the cost of the
company's capital to soar.
The swap of subordinated debt into equity is therefore
deemed to be a satisfactory solution to strengthen
balance-sheets, enabling the company to simultaneously decrease
the amount of debt and increase its equity, with significant
benefits for its financial health.
Issue of bonds secured by the Portuguese State
At the beginning of the financial crisis, the Portuguese
State approved Law 60-A/2008 of October 20 creating a €20
billion package to secure corporate borrowing, namely by credit
The purpose of this package is to ensure reasonable levels
of liquidity in the market and to avoid a hike of credit
institutions' systemic risk, thereby preserving the country's
The State's guarantee was most welcomed by companies in
general and mainly by credit institutions, among others, large
Portuguese banks, which have already proposed the issue a total
of around €4 billion in bonds secured by the Portuguese
According to the structure of these secured bond issues, if
the borrower defaults in its payments, the State will secure
their performance, reducing the risk for the lender. In this
case, the State is entitled to swap its credit over the bank
– acquired through the subrogation of the original
lender – for an equity stake in the bank, thereby
going from guarantor to shareholder of the bank.
In the worst case scenario, the Portuguese State will become
a shareholder of the defaulting bank, which can be seen as a
sign of the confidence in the capacity of credit institutions
to remain financially stable.
In 2010, Spanish issuers were, in the same way as their
Portuguese counterparts, hit by the crisis suffered by Spanish
sovereign debt. The credit constraints arising as a result of
this sovereign debt crisis have implied that Spanish companies
are struggling to obtain financing from credit institutions
and, consequently, have led Spanish companies to raise capital
from other sources.
Spanish financial institutions were also hit by the real
estate market crisis. As a result, the government had to manage
a remarkable restructuring of the financial system, approving
public aids for those entities which were suffering the crisis
on a larger extent (mainly Spanish savings banks).
Within this framework, Spanish companies, in general, and
financial institutions in particular, have mainly opted for the
issuance of bonds as main source to raise capital. This
financial product implies that bondholders become company's
creditors with the right to receive interests agreed and
redemption once bond maturity has elapsed.
Specifically, Spanish companies have opted for the issuance
of two kinds of bonds to raise capital: convertible bonds and
high-yield bonds. This new trend shows the need to find and
create different and alternative means to raise capital due to
constraints in debt markets and investor aversion to subscribe
share capital increases as a result of the market's
As a general rule, the issuance of convertible bonds entails
the right of the subscribers of these financial products to
receive interest over the capital invested subject to the terms
and conditions set out in the relevant issuance information.
Likewise, depending on the kind of convertible bonds,
conversion of the bonds into company shares could be either a
bondholder's right or an issuer's right (compulsory convertible
There are two procedures regarding convertible bonds:
direct, when the issuer of the convertible bonds offers its
shares in the event of conversion; and indirect, when the
issuer offers other company's shares should the subscriber
choose to convert his/her bonds.
Moreover, convertible bonds may be classified regarding
their exchange system: fixed or unsettled. The former implies
that the number of shares to receive when conversion is
fulfilled is set forth before the issuance of the convertible,
irrespective of the market price of shares when conversion
takes place; on the other hand, unsettled or per
relationem rate means that the number of shares to be
given when conversion is carried out will depend on the market
price at that moment.
This is an important matter regarding solvency requirements
for financial entities as further explained below.
In connection with legal requirements for issuance of
convertible bonds, the relatively new Companies Law (Ley de
Sociedades de Capital) sets forth the following:
(i) general Shareholders' resolution establishing
characteristics and means of the conversion and approving a
capital increase for the amount necessary;
(ii) issuance of directors' report explaining the
characteristics and means of the conversion, together with an
independent expert's report appointed by the Commercial
(iii) convertible bonds cannot be issued under their
(iv) as a general rule, bondholders may ask for conversion
at any time. In this case, within the first month of each
semester, the company's directors will issue shares related to
bondholders who had asked for conversion.
As mentioned above, amendments to Spanish regulations in
connection with financial entities have recently changed the
accountability of financial products such as bonds or preferred
shares, which will have a significant implication in the near
future as a result of the new capital requirements set out for
Specifically, the legal framework for financial entities has
changed very much in the last few months. The following new
regulations have been passed:
(i) Law 6/2011 of April 11, which modifies Law 13/1985 of
May 25 on the requirements of preferred shares to be deemed
equity, transposing European Directive EC/2009/111 into the
Spanish legal framework.
(ii) Royal Decree 771/2011 of June 3, which amends Royal
Decree 216/2008 of February 15, on the equity of financial
According to Additional Provision Two of Law 13/1985, as
amended, in order for preferred shares to be included by
financial institutions as equity, the financial products must
comply, among others, with the following requirements.
(i) companies' board of directors may decide, on a
discretionary basis, whether to pay interest rates set out in
the relevant issuance information. This discretionary power is
(ii) compulsory non-payment should the company not comply
with equity requirements.
In connection with convertible bonds, the main issue to
record these financial products in the books as either equity
or debt refers to the exchange system: fixed or unsettled rate.
In this regard, fixed exchanged rate convertible bonds will be
recorded in the company's book as equity.
This is not a straightforward issue and, in practice, this
matter should be discussed with the Bank of Spain.
According to recent experience in Spain, convertible bonds
have become one of the most likely means to raise capital by
Specifically, in 2010, the issuance of convertible bonds
represented €968 million, even though this amount is lower
than that of 2009 (€3.2 billion), when the financial
crisis hit the Spanish market more critically.
Among those Spanish companies which have opted for this kind
of capital increase, the following are worth highlighting:
Abengoa, Fomento de Construcciones y Contratas, Pescanova,
Sacyr Vallehermoso and Telvent Git.
Regarding financial institutions and in connection with
preferred shares, although being very popular in the last few
years (for instance, in 2009 almost €13 billion were
issued by Spanish entities according to the 2010 Annual Report
of the Spanish Stock Exchange Commission), new requirements for
financial entities in line with Basel III will presumably
reduce the appeal of preferred shares among the general
This trend will be in line with 2010 figures when there were
no issuances of preferred shares, Spanish financial
institutions opting instead for the issuance of convertible
For instance, financial entities such as Banco de Sabadell
and Banco Bilbao Vizcaya Argentaria (2009), Banco Popular
(2010), Bankinter, Banco Pastor and Criteria Caixacorp (named
Caixabank once fulfilling the restructuring process of this
savings bank) (2011) have opted for this means of financing
over preferred shares and share capital increases.
Within the debt financial products to be issued by a
company, it is worth noting a specific kind of bonds known as
high-yield bonds or informally called junk bonds, which are
those issued by companies without an investment grade.
Due to this fact, their subscription entails for the
subscriber the assumption of a higher risk of default, which
implies that yields offered are usually higher than those
offered by investment grade companies.
Regarding the legal regime applicable to the issuance of
high-yield bonds, there are no differences in comparison with
Recently, Spanish companies such as Campofrío Food
Group and Befesa Medio Ambiente, through one of its
subsidiaries, have opted for the issuance of high-yield bonds
to finance their activity.
Special case: Spanish savings banks
Spanish financial institutions, in general, and savings
banks, in particular, were hit to a deeper extent by both the
financial and the Spanish real estate market crisis. Within
this framework, the Spanish government and Bank of Spain led a
restructuring process of the Spanish financial system by means
of the approval of a new legal framework for these entities.
The purposes of those measures were:
(i) to create Institutional Protection Schemes (Sistemas
Institucionales de Protección) by savings banks in
order to manage their merger avoiding the limitations to manage
this restructuring as a result of savings banks' special legal
regime (the Schemes have eased the reduction of Spanish savings
banks from 45 in early 2010 to the current figure of 17);
(ii) to provide public aids through the Fund for Ordered
Bank Restructuring (Fondo de Reestructuración
Ordenada Bancaria) by means of subscription of convertible
preferred shares issued for the new Institutional Protection
(iii) to strengthen the solvency of Spanish financial
entities requiring higher levels of capital ratios in line with
In February 2011, a new Royal Decree was passed to speed up
the restructuring process initiated by savings banks. In this
regard, savings banks aiming to received funds from Fund for
Ordered Bank Restructuring were urged to transfer their
financial activity to a bank because of additional public aids
will be managed through subscription of common shares instead
of convertible preferred shares.
Finally, several of the Spanish savings banks involved in
concentration processes through Institutional Protection
Schemes (Bankia, Banca Cívica or Banco Mare Nostrum),
which have incorporated banks owned by savings banks, are in
the process of becoming public and listed on the Spanish Stock
This shows that share capital increases and initial public
offerings will play a significant role in 2011.
About the author
Carlos Costa Andrade has been a partner in the
Lisbon office of Uría Menéndez since
Between 1996 and 1999 he was in-house counsel (Issuers
and Market Division) at Euronext Lisbon –
Sociedade Gestora de Mercados Regulamentados, S.A.
(formerly known as the Lisbon and Oporto Stock
His practice includes capital markets, takeovers, IPOs,
OPVs, structured bonds and other complex securities,
regulated and non-regulated market management entities,
M&A, securities, banking, and corporate
Carlos is among the most highly regarded banking and
finance and capital markets’ lawyers by
Chambers Global Portugal, IFLR 1000 Portugal and Legal
Carlos regularly participates as a speaker at seminars
and conferences related to his field of expertise, both
in Portugal and abroad.
Carlos Costa Andrade
Edifício Rodrigo Uría
Rua Duque de Palmela, 23
1250-097 - Lisboa
t: +351 21 030 86 00
f: +351 21 030 86 01
About the author
Juan Carlos Machuca joined Uría
Menéndez in Madrid in 1996 and has worked out of
the firm’s London office since January
2000. He is the current resident partner in the London
Juan Carlos’ practice focuses on corporate
law, banking, finance, regulatory, investment funds,
private equity and capital markets. He also advises
clients on M&A transactions and on insolvency and
In 2007, Juan Carlos was one of the winners of the
Iberian Lawyer 40 Under Forty Awards, which recognise
the achievements of the new generation of top lawyers
in Spain and Portugal.
Juan Carlos Machuca
125 Old Broad Street - 17th floor
London EC2N 1AR