The Italian industrial structure is dominated by microenterprises and SMEs with SMEs estimated to number 35,000 (roughly 96% of the total number of Italian enterprises), nearly equally distributed over the country. This peculiarity of the Italian system has never hampered innovation and improvement. Small but highly specialized companies, focused on providing great quality products and services, have in fact allowed Italy to be one of the most developed and economically affluent countries in Europe and in the world. STEFANO PADOVANI explores.
Alternative financing opportunities for SMEs
According to the EU recommendation No. 361/2003, SMEs are those with a turnover between EUR2 million (US$2.2 million) and EUR50 million (US$55.1 million) (alternatively an annual balance sheet not exceeding EUR43 million (US$47.38 million)) and a number of employees between 10 and 50. Microenterprises are those below the aforementioned criteria.
As a consequence of the globalization of the economy and above all as a result of the enduring financial and economic crisis, Italy, as with other countries worldwide, has tried to help SMEs in continuing to play their vital role in the international economic scene, by fostering the accessibility to banks and alternative ways of financing.
As a result of the turmoil in the banking sectors and the limited capability of banks to guarantee a continuing flow of resources to the economic system, and also as a result of the heavy burden of non-performing loans which impair them, alternative sources of financing end up playing a fundamental role. This may be divided into three main categories: debt and equity capital market instruments and direct lending.
‘Mini-bonds’ – a debt instrument shaped on needs of SMEs
In 2012, the Italian government started with law Decree No. 83/2012 and law Decree No. 179/2012 (‘Decreto Sviluppo’ or ‘Development Decree’) a reforming process which continued then in the following years with law Decree No. 145/2013 (‘Destinazione Italia Decree’) and law Decree No. 91/2014 (‘Decreto Competitività’).
The overall effect of the enacted legislation is a relaxation of the legal and tax restrictions on the issuance of bonds and similar securities by unlisted companies like SMEs. Such bonds are known in the market with the non technical name of ‘mini-bonds’.
In terms of timing, the issuance of mini-bonds requires between three and four months. The main steps are the following:
the preliminary feasibility analysis
the structuring of the issue with specific regard to the terms and conditions of bonds (eg duration, tradability, amount), and
the research of potential investors.
Mini-bonds issued by SMEs may also be listed on the ExtraMot Pro (the market segment of Borsa Italiana, the Italian stock exchange), which is exclusively dedicated to qualified investors, on the condition that the issuer has published the financial statements of the last two years, and a prospectus or an admission document stating details regarding persons in charge, the financial situation, the activity description, etc.
Furthermore, the reform has also introduced the possibility of issuing profit-participating mini-bonds, containing a participation clause which links the bondholder to the performance of the bond issue. Such instruments must have a maturity date of at least three years and contain a fixed income component in addition to the profit component, which in other words means that the bondholder position is always guaranteed by the reimbursement of the fixed income. In addition, the percentage of the annual profit of the issuer cannot be changed during the life of the bond and shall be paid within 30 days from the approval of the issuer’s annual financial statement.
The aforementioned decrees also brought about an amendment of the taxation applied to the mini-bonds for both the underwriters and the issuers, whereby they are not required to apply 26% withholding tax on interest and other income from bonds, similar securities, and commercial paper traded on regulated markets or multilateral trading systems of EU member states.
The Alternative Investment Market
As an alternative to debt instruments, SMEs can raise funds in the form of equity through the Alternative Investment Market (AIM) which was established in 2012.
The listing on the AIM, which is controlled by Borsa Italiana, is a way for Italian SMEs to raise equity funds among institutional and professional investors to sustain their growth and expansion. In terms of time, the entire listing process lasts between two and four months and it is endorsed by a nominated advisor, or global coordinator, appointed to guarantee support to the company willing to be listed and to give comfort to investors that all conditions and requirements of the listing process are met. One of the main steps of such a process is the drafting and publishing of an informative prospectus (‘Prospetto Informativo’), approved by the Italian Securities and Exchange Commission (CONSOB), containing all information with respect to the business, financial positions, economic prospective and corporate governance of the issuer.
The prospectus may be substituted by a ‘lighter’ admission document (‘Documento di Ammissione’), which does not need to be approved by CONSOB and which must contain financial data regarding the issuer’s business, risk factors, corporate structure, future strategies, if the offer: (i) is made only to some specific professional investors ex Article 26, clause 1, letter (d) of the Intermediary Regulation (‘Regolamento degli Intermediari’); (ii) is made to fewer than 150 professional investors, and (iii) is with regards to financial instruments amounting to less than EUR5 million (US$5.51 million).
Law Decree No. 91/2014 has also broadened the turnout of those that can grant financing to SMEs by including Italian insurance companies, Italian securitization vehicles (SPVs) and alternative investment funds (AIFs).
With respect to insurance companies, the decree provides that borrowers must be selected by a bank or a financial intermediary ex Article 106, which must “retain a significant economic interest in the transaction”. The insurance companies must also be adequately capitalized and have an internal control and risk management system typical of any lending entity. Furthermore, they are admitted to the ‘Centrale dei Rischi’, which is the Italian centralized credit risk database of borrowers.
The decree also sets forth the conditions applicable to securitization vehicles to be used for financing purposes. As it is for insurance companies, borrowers must be selected by a bank or a financial intermediary ex Article 106 that retain a “significant interest” in the transaction. Furthermore, (i) a bank or a financial intermediary must assist the securitization vehicle in order to identify potential borrowers; and (ii) only qualified investors are allowed to subscribe and purchase the notes issued by the securitization vehicle.
Lastly, AIFs are included among those entities that can provide lending directly. The Regulation on the Collective Management of the Credit (‘Regolamento sulla gestione collettiva del risparmio’) issued on the 19th January 2015 specifies that direct lending is reserved only to ‘closed-ended’ AIFs or funds exclusively reserved for qualified investors.
In addition, other constraints are imposed: for instance, (i) the fund cannot grant loans representing more than the 10% of its total asset to the same borrower; (ii) the duration of the financing cannot exceed the duration of the fund’s term; and (iii) funds cannot apply a leverage in excess of 1.5 times. The same regime applies also to EU AIFs that want to lend money directly to Italian borrowers, as provided in Article 46-ter of law Decree No. 18 on the 14th February 2016.
Relationship between Italy and Islamic investors
In this historic phase during which growth tends to move from the west to the east, it would be a great opportunity for Italy to open its resources and expertise to Islamic investors and the country would be a perfect partner not only for sovereign funds, which are already active in Italy, but also for corporations, banks and financial institutions and family offices based in countries with a Muslim-majority population, to invest in.
In particular, Italian SMEs operate in many sectors, such as industrial, retail, manufacturing, food, luxury, fashion, etc, which could be very appealing to Islamic investors, considering that many of them can be Halal-certified. Indeed, there are almost 250 Italian companies that have obtained such certification.
Islamic financial instruments and their implementation in Italy
Due to the possibility of a flawed bank lending, corporates are increasingly seeking alternative instruments to raise funds. In this context, Islamic finance could surely be an opportunity to take advantage of instruments like mini-bonds which are already provided by the existing tax and legal framework and which could be made Shariah compliant by combining them with Islamic finance contracts like commodity Murabahah contracts, or alternatively Musharakah or Mudarabah contracts.
Furthermore, there is one particular type of mini-bond, which is the so-called ‘profit participating’ one, which is indeed based on the risk and profit-sharing approach, one of the pillars of Islamic finance, as it is remunerated mainly on the basis of the profits of the issuer.
Stefano Padovani is a partner and the head of banking and finance at NCTM Studio Legale Associato. He can be contacted at email@example.com.