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Clarity from the Central Bank on Lending to SME’s
AUTHOR(S): Patrick Molloy, Peter O’Brien, Alan Keating, Alma Campion, Rory McPhillips, Laura Gleeson, Donal O’Donovan, Stuart Kennedy, Chris Quinn, William Prentice, Ruth Hunter, Turlough Galvin, Christian Donagh
PRACTICE AREA GROUP: Structured Finance and Derivatives, Banking
Helpful amendments have recently been introduced to what are referred in the Irish market as the “SME Regulations” (the Central Bank (Supervision and Enforcement) Act 2013 (Section 48) (Lending to Small and Medium – Sized Enterprises) Regulations 2015 which were signed into law on 17 December 2015) with a view to enabling regulated lenders to take account of data measured at a group level when considering whether they need to treat a borrower as coming within the ambit of the SME Regulations.
The amending regulations (the full title of which is the Central Bank (Supervision and Enforcement) Act 2013 (Section 48) (Lending to Small and Medium – Sized Enterprises) (Amendment) Regulations 2018 (S.I. No. 18 of 2018)) took immediate effect from 23 January 2018 (the “Amending Regulations”).
Under the terms of the SME Regulations various obligations were imposed on “regulated entities” (i.e. regulated financial service providers) when:
(a) providing or offering to provide credit to a borrower or from which a borrower is seeking to avail of credit,
(b) entering into, offering to enter into or with which a borrower has sought to enter into a credit facility agreement, to which a borrower is a party or will be a party,
(c) proposing or undertaking preparatory work for entering into a credit facility agreement with a borrower and any related activities,
(d) providing or offering to provide an alternative arrangement, or
(e) engaging in credit servicing activities.
The borrowers coming within the ambit of the regulations consist of “micro and small enterprises” and “medium-sized enterprises”. The obligations imposed on regulated entities are more extensive in the case of micro and small enterprises in comparison to the obligations imposed in the case of medium-sized enterprises. These obligations do not arise where, amongst other things, (i) credit has been offered or granted by two or more regulated entities working together to provide funds to one or more borrowers as part of the same credit arrangement and (ii) credit is offered or granted to special purpose vehicles.
The definitions of what is a micro and small enterprise and what is a micro, small and medium-sized enterprise as provided for in the SME Regulations did not provide for regulated entities to take into account the turnover and assets of the broader group of companies of which such an enterprise is a part. This is something that had been catered for in the predecessor to the SME Regulations (the 2012 SME Code published by the Central Bank of Ireland).
On 23 January 2018, the Central Bank of Ireland published the Amending Regulations which amended the SME Regulations by inserting (1) an amended definition for “micro and small enterprise”, (2) an amended definition for “micro, small and medium-sized enterprise” and (3) a new definition of “partner enterprise” – all of which helpfully refer to such terms as they are defined in a European Commission Recommendation of 6 May 2003 (the “CR”). The benefit of such reference points for regulated entities is that they can return to a similar method of analysis to what was used under the 2012 SME Code in that they can look at the data (turnover / employee numbers etc) of a “partner enterprise” or, more likely in practice, that of a “linked enterprise” (as such terms are defined in the CR) when trying to establish if a company is in a group structure and therefore potentially outside the scope of the SME Regulations.
The definitions of what is a partner enterprise and what is a linked enterprise are complex and may need to be considered on a case by case basis. For example, an enterprise having a majority of the shareholders’ or members’ voting rights in another enterprise would mean that both enterprises are considered to be “linked”. Where such a relationship exists through one or more enterprises, this will also satisfy the test for having both entities be considered as linked.
The concept of a “partner enterprise” on the other hand would cover a scenario where one enterprise holds, either solely or jointly with one or more linked enterprises, 25% or more of the capital or voting rights of another enterprise (but not greater than 50%). Therefore and by way of example it is possible that a minority position held in a joint venture company could result in that entity being considered to be a “partner enterprise” of the holder. Again, the rules in relation to what is a partner enterprise are complex and there may be cases where the 25% threshold is exceeded but where the relationship of partner enterprises will not arise. For example, the Amending Regulations provide that a regulated entity shall not have regard to:
(a) the number of persons employed by a partner enterprise; or
(b) the annual turnover and annual balance sheet total of a partner enterprise
where the borrower does not have access to the financial resources of the partner enterprise and the investment in or from the partner enterprise is less than €1,250,000.
It is at this stage unclear as to what might be required in order to reach a conclusion that one entity has access to the financial resources of another entity. It may also be difficult to conclude, in certain cases, that an investment in or from a partner enterprise is equal to or greater than the threshold of €1,250,000. In light of this it may be difficult to reach a conclusion that partner enterprises may be taken into account in considering whether to apply the SME Regulations to a particular borrower. We suspect that the ability to aggregate linked enterprises may well be sufficient from the perspective of a regulated lender.
These Amending Regulations bring welcome clarity for those lending to SMEs. Do note however that change may yet be on the horizon as only this week the European Commission has issued a public consultation (closing date 6 May 2018) on the definition of SME as set out in the CR as it is “preparing for an evaluation and possible revision of some aspects of the SME definition”.