The Brazilian Monetary Council (Conselho Monetário Nacional – CMN) issued Resolution No. 4330, of May 26, 2004 (CMN Res. 4330/2014), improving the rules on the issuance of Financial Bills (Letras Financeiras – LFs), regulating provisions established by Law No. 12838, of July 9, 2013 (Law 12838/2013) that aligns certain characteristics of the LF to the requirements necessary for its use for purposes of composition of the Regulatory Capital (Patrimônio de Referência – PR) of the issuing financial institutions1.
The LF is a credit document that constitutes a promise of payment in cash, issued in the registered form, which may be transferred to third parties and it is freely negotiable. It must be exclusively issued in book-entry form, through the registration in a registry and financial settlement of assets system authorized by the Central Bank of Brazil (Banco Central do Brasil – Bacen).
These measures are part of the set of actions related to the adoption of the recommendations of Basel III in Brazil that is scoped to improve the ability of the financial institutions´ capital, which must be enough to withstand any shocks from the financial system or other sectors of the economy.
CMN Res. 4330/2014 changes CMN Res. 4123, of August 23, 2012, that governs the issuance of LFs, specifically amending the provisions dealing with the use of the instrument for composition of the PR and the repurchase of the instrument by the issuer.
The LF issued with subordination clause, for composition of the PR, must provide for: (i) suspension of payment of the stipulated remuneration; (ii) permanent extinction of right to credit represented by the LF or, alternatively, conversion of this right into eligible shares of the issuer`s the Main Capital (Capital Principal); (iii) maturity only conditioned to the occurrence of the dissolution of the issuer or breach of the obligation to pay the stipulated remuneration, in which case both conditions should be included in the LF; and (iv) at the discretion of the financial institution, correction according to the exchange variation.
Considering that some of these features represent significant innovations in the legal framework, the regulation requires that its use be confined to LFs issued to compose the PR.
The regulation provides that the effectiveness of the suspension of payment and termination of right to claim clause [item (i) above] or the conversion of the LF into shares clause [item (ii) above] be subject to the prior authorization of Bacen so that the funds borrowed can compose the PR. These clauses would only be valid in case of actual use of the funds raised in the composition of the PR.
The clause concerning the conditions of maturity of the LF [item (iii) above] is also a fundamental requirement for use of this instrument in the composition of capital. Thus, the LFs will have character of perpetuity, linking its maturity only to the dissolution of the issuer or breach of the obligation to pay the stipulated remuneration.
Unlike the above-mentioned remaining clauses, the inclusion of the possibility of issuing LF as eligible capital updated according to the exchange variation [item (iv) above] is not essential to the recognition of the LF requirement as an instrument eligible for composition of the PR. The target audience of the LF that incorporates this new requirement should be made mainly by investors abroad and reducing the exchange currency risk would facilitate the placement of the instrument before such investors.
It should be highlighted, however, that the issuance of LFs with the exchange variation clause continues prohibited, with the exception of those intended to compose the PR of the financial institution which is expressly permitted.
Finally, to stimulate the formation of a secondary market of subordinated LFs, the repurchase by the issuer is admitted at any time up to the amount of 3% of the total balance of LFs issued with the same feature (with subordination clause), provided that the transaction is closed at the exchange or the organized over-the-counter market in order to be held in Treasury and for subsequent sale. If there is no subordination clause, then the applicable threshold is 5%.
The institutions authorized to issue LFs are the following: (i) multiservice banks (bancos múltiplos); (ii) commercial banks (bancos comerciais); (iii) development banks (bancos de desenvolvimento); (iv) investment banks (bancos de investimentos); (v) savings banks (caixas econômicas); (vi) mortgage companies (companhias hipotecárias); (vii) loan, finance and investment companies (sociedades de crédito, financiamento e investimento); (viii) real estate loan companies (sociedades de crédito imobiliário); and (ix) the Brazilian Development Bank (Banco Nacional de Desenvolvimento Econômico e Social – BNDES).
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