1. Tomas Ambrasas Lecturer and PHD student in Mykolas Romeris university, Lithuania ambrasas@gmail.com PHD research object: Bank insolvency law BANK RESTRUCTURING TENDENCIES IN LITHUANIA AND EUROPEAN UNION

2. It is universally known that bank insolvency is recurrent phenomenon. If banks insolvency cases are systemic, they can postulate a country's legal and financial resources or risks. (uncertainty about the state of the financial system, growing panic etc.) A growing body of evidence suggests that policy makers seeking to strengthen the private sector need to pay attention not only to macroeconomic factors but also to the quality of laws, regulations and institutional arrangements that shape daily economic life. „Doing business 2012”, The World bank. One of the major developed country priorities and indicators - resolving insolvency procedures. Bank restructuring begins with a diagnosis of the financial condition of individual banks, requiring the establishment or revision of laws and institutions. Central banks rescue if the bank getting into financial difficulties, usually it leads to insolvency: direct bank liquidation (bankruptcy) or bank restructuring (with the help of legal instruments ant techniques) Recently, the banking industry has faced considerable challenges in Lithuania (in Lithuania two banks faced insolvency almost in a year - “Snoras” bank and “Ūkio bankas“) and European Union (e.g. „Hypo Real Estate“, „Kommunalkredit“, „NG“, „Commerzbank“ were restructured). Einstein „We cant solve problems by using the same kind of thinking we used when we created them“

3. Dramatic legal changes were started in EU (European Commision launched the process of implementing for the European Union the new global standards on bank capital most commonly known as the Basel III agreement in order to allow legally favourable conditions for banks restructuring, the European Commision has tabled around 30 proposals to improve regulation of the financial system and benefit the real economy. Financial sector, which includes a significant part of the banking sector in Lithuania, is attributable to one of the most social sensitive sectors and the situation in this sector could have a significant impact on the country's economy, citizens trust and economic subjects trust and confidence in the country's financial system. Bank insolvency has specific regulation, is different from corporate insolvency bank restructuring procedures and is completely different from straight liquidation of an insolvent bank. Tendencies in European Union

4. There are a dozen reasons for bank insolvency, but common typology in the EU is: loans to related persons, unsustainable business models based on excessive leverage and the over-reliance on short-term wholesale funding, size of banking structures etc. What kind of sanctions could be taken by supervisory and which sanctions are the most effective when it is clear that the viability of a bank could not be restored? Regarding bank insolvency, there are two options: direct liquidation (bank bankruptcy) or bank restructuring (different legal techniques). The main objective of bank restructuring is to restore individual banks or their solvency, merge, sell, or recapitalize banks, recover assets, operations, and procedures

5. Bank restructuring techniques: After insolvent bank resolution sometimes it is much better to split bank into “good” and “bad” bank, to sell bank assets or bank shares, to issue governmental guarantees, to establish a temporary bank or use different legal techniques in order to minimize financial stability, creditors and state losses. Countries need to have mechanisms in place to handle the exist of a bank from the system with minimum economic disruption and loss of confidence in the banking system. The failing bank can be liquidated, straight sold as a whole in merger and acquisition, sold in parts through a purchase and assumption agreement, or nationalized. Einstein „We cant solve problems by using the same kind of thinking we used when we created them“

6. Alternatively to straight liquidation. Mostly in extreme case. Keeping the bank open but replace the existing shareholders with the government. Key steps: 1) bank must be declared insolvent by the supervisor and the law should allow the supervisor to wipe out the shareholders’ interest 2) the state must recapitalize the bank sufficiently to fill the hole, to wipe out the negative equity and to add additional equity to bring the bank into conformance with the capital adequacy requirements. Recapitalization could be done by infusions of cash, government paper, government guaranteed paper, or combination of these. Advantages: 1) can be handled very quickly. 2) protects all the creditors of the bank 3) since the bank continues to operate, paying customers are able to maintain their lending relationships with the banks (especially in situations where alternative sources of credit is limited)4 ) no disruption to the payment system Disadvantages: 1) if deposit insurance exists and a large bank becomes insolvent, the fiscal outlay (deposit insurance fund outlay) is very large. 2)”moral hazard”: if depositors/creditors believe that government will step in and protect them anytime a bank fails, they will have no reason to monitor the bank and be disciplined. The management may be willing to take excessive risk 3) a nationalized bank may have significant competitive advantages relative to other banks because it will be perceived as having a full governmental guarantee on its liabilities. This may allow it to attract deposits at a lower rate than the market and turn price loans below market. Nationalization

7. P&A goal is to have the insolvent bank cease to exist but avoid the disruptive effects of straight liquidation. Another bank that is interested in acquiring all or part of the business of the insolvent bank is required. Structure: to purchase the good assets of the failed bank and assume its deposit liabilities. The deposit insurer or the government provides cash or government paper to make up for the difference between the good assets purchased and the liabilities assumed. The goods assets are disposed of at book value and an offsetting amount of liabilities are satisfied. The liquidator/receiver will subsequently dispose of the “bad” assets, either through sale or by managing them. The choice is made based on choosing the bidder willing to pay the highest premium. Advantages: 1) can be executed quickly. 2) Easy transaction to explain to depositors, just their accounts have been transferred to a new bank.3) if there are several potential buyers, the transaction allows the government, or the deposit insurer, to capture franchise value of the failed bank for the benefit of its creditors.4 )forcing shareholders to suffer the first loss; avoids the distribution that can accompany a straight liquidation. Disadvantages: all depositors are protected, including ones who are not supposed to be protected under deposit insurance schemes. More operationally complex to execute. Purchase and Assumption agreement

8. M&A: Willing to buy the distressed bank as a whole. Acquiring bank receives not only all the assets and liabilities of the distressed bank but also becomes the owner of the legal entity. Options: 1) through the transfer of shares 2) direct merger 3) establishing a new bank holding that would own both banks Risks: decisions need to be made quickly to prevent sudden termination of a bank or spread of systemic risk. If the transparency of the bank’s assets and liabilities is low, finding an acquiring bank may be difficult, in such case it is recommended to use P&A agreement by regulator. Good/bad bank: the value of the assets is highly uncertainty. Split the failed bank in two parts: keep the good assets and insured liabilities in the good bank (“bridge bank”), and leave the bad assets and uninsured liabilities in the remaining bad bank. The good bank after such transaction would be more transparent and would b sold to private acquirer and bad bank liquidated. Mergers and acquisitions and good/bad bank

9. 2011 12 12 Bank “Snoras” was announced insolvent by the court (with the inferences of regulator). The bank was the third biggest bank in the Lithuania by the number of depositors and the fifth largest in terms of assets (which represent 10% of the banking system in Lithuania). In essence, the bank became insolvent because the suspected fraud of shareholders and administrative bodies and misappropriation of assets in balance sheet. The government funded the payment of insured deposits giving a loan to the state company “Deposit and Investment Insurance”. It is hoped that this loan will be substantially offset by the assets sold the bank “Snoras” bankruptcy case. 2013 02 18 regulator announced AB “Ūkio bankas” as insolvent bank and regulator canceled the banking license. The bank's assets amounted to about 5% of total banking system assets. Bank insolvency was announced after the capital ratio did not meet the requirements and failed to absorb losses (in particular issues related to the persons issued loans). 2013 02 23 Purchase and Assumption agreement was signed with other Lithuanian bank „Šiaulių bankas“, the assets and liabilities were transferred. In addition, it should be noted, that in small countries like Lithuania (which any bank operating in the financial sector holds a significant part of the market), there are big chances that the state can impose sanctions or to provide support due to bank's insolvency or due to high systemic risk caused by negative consequences of collapsed bank. Without such measures as state guarantees, the bank's capital or purchase of bank assets, it should be noted that there is a drastic measure- to take over bank-shares for public needs. Such a technique has been adapted only time in bank Bank “Snoras” insolvency (2011). These measures have led to many legal disputes between the former shareholders of the bank and the state (on the basis of compensation for nationalized shares.) Tendencies in Lithuania

10. Strengthening the banking system: By securing better capitalisation: Banking institutions entered the crisis with capital that was insufficient both in quantity and in quality, leading to unprecedented support from national authorities. With its proposal on bank capitalisation the Commission launched the process of implementing for the European Union the new global standards on bank capital agreed at the G20 level (most commonly known as the Basel III agreement). Europe is playing a leading role on this matter, applying these rules to more than 8,000 banks, representing 53% of global assets. The Commission also wants to set up a governance framework giving national supervisors new powers to monitor banks more closely and take action through possible sanctions when they spot risks, for example to reduce credit when it looks like it is growing into a bubble By facilitating banking sector restructuration: Extensive financial sector conditionality has been included among the policy requirements addressed to Member States that have received international financial assistance. Other measures taken to strengthen Europe's financial sector: In addition to reinforcing the supervision of the financial sector, increasing protection for bank depositors, strengthening capital requirements for financial firms, and improving crisis management in the banking sector;capital requirementscrisis management to regulate shadow banking to make credit ratings more reliable to tighten rules on hedge funds, short selling and derivatives to revise current rules on trade in financial instruments, market abuse and investment funds; to curb banking pay practices that encourage recklessness; to reform the sectors of audit and accounting Etc. Tendencies in European Union