Thought Leader – M&A – PKF Malta – Michela Mifsud
In a fast moving European market, the promotion of investment for growth is paramount to the expansion of local businesses, and the establishment of government-sponsored financial institutions has been a great stimulation for increased industrialization and commerce across the EU.
On this matter, Lawyer Monthly benefits from an in-depth article written by Michela Mifsud, a Banking and Investment researcher at PKF Malta, a specialist accountancy & business firm in Malta.
New Horizons for Local Businesses
Supported By A New Development Bank
On the 24th August 2016, Malta joined several other Member States in the EU which during the past years have been reorganising development financial institutions or setting up new ones with a view to amplify their potential by promoting investment and growth. The birth of government-sponsored financial institutions can be traced back to the 19th century, with the Netherlands being the pioneer with the establishment of the ‘Société Générale pour Favoriser l’Industrie Nationale’ in 1822. The significant developments in this sphere and the emergence of large financial institutions for industrial development during this period can be linked to the rapid industrialization which took place in Continental Europe.
The relevance of state-owned financial institutions was triggered once again with the demands for reconstruction ensuing the Second World War ruins. A leading case in point in Europe is the German Kredintaltanlt fur Weidarufban (KfW), which was originally intended to channel external funds for reconstruction but, once the German industry was back on its feet, evolved into a long-term financial institution which, in the ambit of a stable economy, seeks to support the German and European industry, with a particular consciousness to the environment and the climate, the housing sector, asset securitisation and the promotion of SMEs.
The 2007 financial crisis, which threatened the collapse of large financial institutions worldwide, has once again brought to the fore the significance of development banks. Bearing the ability to mitigate capital constraints in scarce credit markets, as well as facilitate access to finance, allowing liquidity-dearth sectors to unravel productive investments, development banks are an imperative tool utilised by governments to surmount difficulties in their economy.
The European Commission gave its green light for the creation of the Malta Development Bank (MDB) after this was found to be in harmony with EU State aid rules. Within the parameters of these rules, as a form of National Promotional Bank (NPB), the MDB will step in when the private market fails to provide adequate financing to certain lines of business, categories of clients or types of enterprises that meet the Bank’s social and economic mission, or, if such financing is available, it is not offered at normal market terms and is not appropriate to reach the Bank’s purpose.
By definition, State aid is an advantage which is conferred on a selective basis by national public authorities to specific undertakings or industry sectors, or companies located in specific regions. Subsidies granted to individuals or general measures open to all enterprises, such as general taxation measures or employment legislation, thus, do not constitute State aid. However, a measure, be it a grant, interest or tax relief, guarantee, government holding or the provision of goods and services on preferential terms, is characterised as State aid when it is the result of an intervention by the State, leading to a possible distortion of competition and one which is likely to affect trade between Member States.
For these reasons, State aid is frowned upon and is generally prohibited by the EU. However, in particular circumstances, government intervention is permitted by the General Block Exemption Regulation (GBER) when this is undertaken in view of fostering overall economic development of the country. Accordingly, in view of ensuring a well-functioning and equitable economy, Article 107 of the Treaty on the Functioning of the European Union (TFEU) exempts specific categories of aid which shall nonetheless be considered to be compatible with the internal market.
The European Commission’s assessment of Malta’s proposal for the setting up of the MDB in light of these exemptions deemed it to be justified in virtue of the fact that such assistance is intended to enable the development of particular economic activities or areas and the aid offered shall not adversely affect trading conditions to an extent contrary to the common interest. To this end, the Bank will carry out non-commercial activities particularly intended to facilitate access to finance to SMEs and to support large infrastructural projects when investment is insufficiently available from the market.
Of their nature, development banks are better suited to take on projects with a higher risk profile, cushioned by the offering of capital being made conditional on functional enhancements and performance targets. In this regard, the Malta Development Bank Act, 2016, stipulates the instances in which the MDB will have the power to make loans to, or investments in, engagements in an enterprise or project which is capable of flourishing and yielding positive results for Malta. The Bank will address lacunae in the financial structure by acting as a wholesale second-tier financial intermediary in coordination with and via other financial institutions, including commercial banks and private investors. Thus, it may only undertake direct lending and provide financing on market terms in a manner which does not compete with or crowd out viable financing from such other sources. Moreover, the Bank may only offer financing directly and not in syndication with other financial institutions provided that this does not exceed 25% of its overall lending and is provided under schemes tailored for the business concerned.
Starting off with an initial authorised capital of €200 million, out of which around €30 million will be paid-up, with additional capital pay-ups contingent on the Bank’s success, the MDB is envisioned to support entrepreneurship and socio-economic growth in Malta by providing promotional investment and financing, financial and advisory services, as well as by issuing securities or otherwise raising funds or capital in support of those services. Aside from this capital injection, the MDB will also cater for the provision of finance through guarantees and tax exemptions totalling to circa €55 million. The Maltese Government MDB will have a guarantee from the Maltese Government on both the assets and liabilities side, the extent of which will be negotiated with the Ministry of Finance.
Amongst its designated investment ventures, the Bank may finance enterprises, businesses and projects, particularly those contributing to a high quality, dynamic and innovative economy, as well as provide suitable access capital to SMEs, the professions and business start-ups. In line with the mission of development banks to promote socio-economic goals, on a more socially-conscious level, the MDB may pump funding into projects undertaken by cooperatives, social enterprises and housing projects, especially those involving urban renewal, as well as infrastructural projects, particularly those geared towards enhancing Malta’s competitiveness.
In light of the Juncker Commission’s €315 billion Investment Plan (2015-2017), adopted in November 2014, which envisages to eliminate obstacles to investment in the internal market, afford visibility and technical assistance to investment projects, and effectively exploit new and existing financial resources, the MDB, together with other Investment Platforms and NPBs, will have a predominant role in Europe’s economic revival. By virtue of its role as an intermediate platform, the MDB can also participate in EU financial instruments, such as COSME, the European Fund for Strategic Investments, which offer further sustenance to SMEs to nourish their competitiveness, or Horizon 2020, being the largest EU Research and Innovation programme the EU has embarked on. Such ancillary source of funding for SMEs and the infrastructure sector will nurture the much-desired sustainable growth in the levels of investment which the EU saw plummeting since the break of the global economic and financial crisis.
In conclusion, in its role as a stepping stone for facilitated access to finance, the MDB is set to contribute towards the Investment Plan’s goal of boosting job creation and economic recovery in a manner which does not further load on public debt nor strain national budgets. On top of that, the Bank will also play a part in supporting investment that meets the economy’s long-term needs, increases competitiveness, as well as fortifies Europe’s productive capacity and infrastructure, with a focus on building a more interlinked single market. In view of the Commission’s reassessment of its findings scheduled for 2019, proper due diligence and project-sustainability studies must be undertaken to ensure that only commercially viable projects will benefit from this mechanism and to prevent it from being used to accommodate entities which fail to receive financing from other avenues due to their weak business models and strategies.