A general introduction to loans and secured financing in Portugal
All the questions
i Credit market
Over the past two years, the Portuguese loan market has been inevitably affected by the economic impacts of the covid-19 pandemic. Portugal saw unprecedented levels of decline in economic activity in 2020, but growth, jobs and investment started to pick up steadily in 2021.
In response to the effects of the pandemic, public and private moratoriums were quickly adopted in all areas, with suspension of payments and extension of deadlines for financing agreements in virtually all sectors. Other instruments have also been successfully implemented, such as redundancy schemes, low interest rates, the deferral of certain taxes and the extension of credit lines with public guarantees. In the meantime, moratoriums have been lifted and support for companies affected by covid has been concentrated at Banco Português do Fomento, the country’s public development bank.
Legislative insolvency rulings and government-backed initiatives to provide liquidity to businesses have also shaped the lending market in recent years, the impacts of which are likely to be felt in the years to come, particularly with respect to non-performing loans (NPL). Additionally, NPL’s troubled assets and portfolio transactions are expected to increase at a faster pace due to the anticipated rise in interest rates.
Traditional bank loans remain the most important source of financing for companies in Portugal (around 42%), while the total amount of loans represents on average 80% of the country’s GDP.2 Local and international banks continue to be the most active players on the lending side of the market, and a trend towards consolidation in the domestic banking sector remains visible. Syndicated loan agreements continue to be widely used by lenders wishing to reduce their risk exposure in connection with a loan, particularly in the context of restructuring.
However, the issuance of bonds and other debt securities has increased as an alternative source of financing, particularly in cases where the subscriber is a non-resident entity – due to regulatory limitations on extending credit professional by entities not authorized in Portugal and the applicable taxation. incentives when the bonds are cleared through a clearing and settlement system such as Interbolsa.3 Investments in green and hybrid bonds exceeded €4 billion in 2021. Conversely, financiers have not yet tapped into the market for ESG or sustainability-related loans, but it is likely that these will become a hot topic in the near future, as in other European jurisdictions, given the more favorable borrowing conditions compared to other borrowings.
ii Banking sector
Portuguese banks continued their trajectory towards greater resilience, which began in the aftermath of the global financial crisis and the subsequent sovereign debt crisis. Deleveraging and strengthening capital and liquidity levels have been a top priority for commercial banks, while liquidity has been mainly provided by central bank funding. Although returns have improved, the sector has largely relied on commission-based models and a strong shift towards digital services has also been visible. In addition, Banco Português de Fomento, the public promotion bank, was created on November 3, 2020, with a view to promoting growth and access to finance, in particular for small and medium-sized enterprises (SMEs), and commits to improving economic, social and environmental living conditions.
iii Loan documents
Financing agreements in the market under Portuguese law do not generally follow the conditions of the Loan Market Association or other industry standards. However, these are commonly used as a reference in negotiating and drafting documents, especially in cross-border and syndicated loans. In traditional bilateral agreements, Portuguese banks usually offer their standard documents, but a negotiation margin may be available depending on the particulars of the transaction and the type of borrower and guarantor. Most bank loans provide a floating interest rate, EURIBOR being the market benchmark. Standard yield determinants, such as zero-based floors and yield protection provisions, including cost escalation, break and payout costs, tax gross-up and tax indemnity, have become common practice market established.
Legal and regulatory developments
In addition to comprehensive support measures to counter the economic effects of covid-19, recent key legal developments include the following.
i Loan fund
Loan funds were introduced in Portugal by Decree Law 144/2019, of September 23. The purpose of credit funds is to lend directly to legal entities (particularly SMEs), to participate in credit unions or to acquire credits originated by banks, by way of assignments.
ii Unauthorized financial activity
Law 78/2021, of November 24, established the legal framework for the prevention and fight against unauthorized financial activities and consumer protection. The framework includes a general obligation for market participants to refrain from marketing and recommending financial products and services offered by unauthorized entities. It also imposes reporting obligations and strengthens the supervisory powers of regulators with regard to illicit credit-granting activities. As a result, consumer loan documents must now include specific references when loans are granted by unlicensed financial or credit institutions, which must guarantee that they do not carry out a reserved activity.
iii Equity loans
The framework applicable to equity loans was set in 2021, by law 99-A/2021, of January 12. The equity loan is a hybrid mode of financing, in which the equity loan is remunerated and partially reimbursed according to the results of the borrower (similar to quasi-equity). In addition, any outstanding loan amount may be converted into equity in the event of default or similar event. The framework can help diversify the sources of funding available, especially for Portuguese SMEs.
iv Directive on Credit Servicers and Credit Purchasers
Directive on credit servicers and credit purchasers,4 which was finally approved in 2021, establishes a harmonized framework for NPLs originating from EU banks, through the creation of a fair secondary market. Once transposed (which will take place by the end of 2023), EU credit servicers will be required to obtain authorization in their home Member State, but may issue it in other jurisdictions. As for EU credit buyers, they will have to appoint a credit institution or authorized repairer to carry out service activities towards consumers.
v Bank activity code
In 2021, the Bank of Portugal approved a final draft of the new Portuguese Code of Banking Activities which, if adopted by Parliament, will replace the current legal framework governing banking activities and the provision of financial services in Portugal. The proposal for a banking activity code represents a significant change in the banking landscape. The project aims to consolidate, in a single piece of legislation, the framework for banking activities in Portugal. It also proposes to introduce legislative changes that reflect recent developments in the Portuguese banking sector, while taking the opportunity to transpose the European Union directives that make up the “banking package”, in particular the directive on the requirements of equity.5 and the Bank Recovery and Resolution Directive II.6 The new Code is expected to be approved in 2022.
Perspectives and Conclusions
In the post-covid-19 pandemic era, some interesting bankable transactions and projects that have been delayed have picked up a new pace, but the Russian invasion of Ukraine in February again caused major disruption. This halted the economic recovery that was taking hold and contributed to rising inflation, which is now soaring in Europe and other parts of the world. Portugal is no exception.
In order to fight inflation, an increase in interest rates is expected, which, given that the credit structure in Portugal is dominated by variable interest rates, will again test the resilience of Portuguese banks.
Over the next two years, we foresee changes in the landscape of the banking system as a whole, particularly with regard to regulation and supervision (with the new Portuguese banking activity code) and the digital transformation/revolution that Portuguese banks in order to compete with fintech players.99 and virtual asset service providers.
Technological development is – today more than ever – a key factor in attracting and retaining customers and reducing bank costs. It is reasonable to believe that the next few years will continue to be driven by and driven by innovation and technology development, which will inevitably present an increased challenge for regulators to keep pace and ensure the proper balance between risk and innovation.
Environmental sustainability, social inclusion and fairness, transparency and good governance practices are now part of the DNA of Portuguese banks. The idea that banking products should follow a sustainability standard is not only a regulatory requirement, but is also demanded by investors. Transition risk, working conditions, environmental impact and governance practices, among others, are also now part of banks’ risk management framework and assessment of any given financing project. This explains the surge in sustainability-related loans and bonds that has exploded in recent months, with banks and investors agreeing to good pricing terms from the perspective of the borrower or issuer, as the world of finance wants to ensure that companies make sustainable investment decisions. Another expected trend is the rise of lending products adopting sustainability factors; for example, supply chain financing solutions linked to sustainability have recently been implemented by offering suppliers who consider sustainability criteria preferential terms on the payment of invoices.
The climate and socially responsible investment market has enormous potential. Green finance is now high on the agenda of every market player, regulator and consumer of banking products, and Portuguese banks seem well placed to inspire and drive this green transition.