Vol 6 (2009) - Issue 2

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Financial Market Participant Insolvency

In the aftermath of the initial credit crunch storm, smaller market participants are feeling the pinch. It is possible that some of these will have insufficient liquidity to continue to trade, or will fail to meet their capital ratios, and may have to seek support from a stronger participant or wind themselves down. However, it is also possible that some will follow Lehman into insolvency.

When a UK market participant enters insolvency, the rules surrounding it are not just those of insolvency, but of the clearing systems, the regulatory authorities and various Exchanges. It is not simply a matter of realising assets and distributing to creditors, but of finding whether in fact there is an asset there at all, after all the regulations are taken into account, and whether this is an asset of the insolvent estate or a client asset.

The insolvency of a market participant can therefore be unusually complex and require special handling. This article gives a brief overview of some of the issues that contribute to this, from a UK perspective.

Legislation

There are many aspects of other legislation which interact, not always comfortably, with the insolvency legislation. These include:

– The Financial Collateral Directive and associated Regulations incorporating it into UK law;
– The Companies Act;
– The Financial Services and Markets Act 2000 (‘FSMA 2000’);
– Markets In Financial Instruments Directive (‘MIFID’).

Each of these contain exceptions to the general insolvency rule of pari-passu distribution and the collective application of assets for the benefit of all creditors. The Financial Collateral Regulations provide that creditors holding financial collateral (i.e. shares and other tradable instruments) may enforce their security, without any consent being required, even against an administrator. Normally, security can only be enforced against an administrator with the consent of the administrator or court.

To add to the complexity, many of the rules have recently been, or are in the process of being, changed.

Regulators and other bodies

Not only must the restructuring professional (and their legal advisers) deal with the normal round of directors, corporates, interested parties, pension funds, employees and creditors, but there is a host of regulators and other bodies to contend with, all of whom have different rights and powers to demand information. If an administration is contemplated, then consent will be required from the Financial Services Authority (‘FSA’) (FSMA 2000, section 362A) before any administrator can be appointed by the company or its directors. If this is not obtained then the FSA can, and does, remove the administrators.

The London Stock Exchange (‘LSE’) has, inter alia, powers to suspend a company’s membership, thus preventing it from undertaking certain types of advisory work; or declare a member company in default (see below).

In the UK, other Exchanges, such as PLUS or AIM, will generally follow the LSE’s lead.Both the FSA and the Financial Ombudsman will be important points of contact.