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From bank loans to capital markets union, Europe builds bridge finance: mini-bonds and Schuldschein

by Isabella Bufacchi

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On the one side, bank deleveraging is reducing credit flows to the economy. On the other side, the creation of the Capital Markets Union is gaining momentum but it is a slow moving process. That’s why Europe needs bridge finance products, the “economics of private placements”, that is, hybrid instruments that help SMEs in the not-so-easy transition from bank loans to equity or bond public issues. Italy and Germany are pushing forward with the proposal of two financial products, mini-bonds and Schuldschein: they are not brand new but are flexible, and this is exactly what banks, institutional investors, issuers and entrepreneurs are looking for to smooth things out.

Italian mini-bonds are special medium term debt securities targeted to investment plans and specific projects: since 2013 this market has been growing steadily. At the end of 2016,, a record year with €3.67 bn issued, the number of issues was up to 292 with a total nominal value of €12 bn. The issuers tend to be Italian SMEs, not listed companies, with at least 10 employees and over €2 mn turnover. The underwriters or subscribers are only institutional professional, qualified investors (no retail investors). Mini-bonds can be unrated and rated: documentation is not light and the instrument is still too costly compared to a bank loan. However, SMEs can raise longer term funds with mini-bonds, compared to bank loans which have shorter maturities.

Corporate Schuldschein is a certified loan agreement, it is not a security. It is a private placement with a bilateral deal between the issuer (usually SMEs) and the institutional investor (no retail). It has a slim documentation (15-20 pages), no external ratings, no liquid secondary market as it targets hold-to-maturity and buy-and-hold investor base. It has reached an outstanding volume above €100 bn. Last year represents the absolute record year in the history if this market, with total issue volume of almost €27 bn spread over 128 transactions (previous year it was €19.3 bn with 106 deals). Its minimum size is €10 mn, it has maturites between 3 and 10 years, with longer maturities possible up to 30-year. Bayern LB estimated the total volume for 2017 to be about €20 bn.

During an event organized in Rome on June 14 by FeBaF-VOEB (the Italian Banking, Insurance and Finance Federation and the Association of German public banks), the pros and cons of mini-bonds and Schuldschein private placements were analyzed. The mini-bond looks very much like an Italian product for Italian issuers: it is a bit complex and costly and it needs SMEs to become more transparent and with better management and governance. The Schuldschein’s aim is internationalization: it has the ambition to become the widely accepted European bridge finance product. Indeed, it is attracting more and more non-German issuers (from Switzerland and Austria lately) and GBP and US$ are becoming common currencies, apart from the euro. The most recent development is Green Schuldschein.

Where does private placement fit in the CMU (capital markets union) story? According to the European commission, there are quite a few advantages of private placements for mid-sized firms: 1) diversification of funding away from bank lending; 2) confidentiality (at least for unlisted transactions); 3) first steps towards gaining access to public markets. There are also advantages for institutional investors: 1) higher yields (up to 5.5% for mini-bonds compared to 1-3% bank loans) ; 2) asset diversification; 3) long-term liabilities matching.