Bank Recapitalisation that Conforms to the Market Economy Investor Principle

Bank Recapitalisation that Conforms to the Market Economy Investor Principle - m 7

A public authority acts like a private investor when it injects capital in a stricken bank if there is a realistic prospect of sufficient return that compensates it for the risk it bears.



Caixa Geral de Depósitos (CGD) is the largest bank in Portugal and is now fully owned by the State.

In June 2012, Portugal notified to the Commission a number of recapitalisation measures in favour of CGD so that the latter could meet its solvency requirements. The recapitalisation measures consisted of injection of public money in the form of share capital amounting to €750 million and the subscription of convertible instruments (CoCos) issued by CGD amounting to €900 million. The Commission authorised the recapitalisation measures in July 2012 and a related restructuring plan in 2013.

The 2013 restructuring plan aimed to reduce labour costs and non-performing loans. In addition, the Commission imposed “behavioural” restrictions such as a ban on advertising State support, a ban on aggressive commercial practices, an acquisition ban and a restriction on the remuneration of CGD managers.

In compliance with the banking guidelines in force at the time, the 2013 restructuring provided for burden-sharing in the form of no payment of dividends and interest to preferred shareholders and subordinate bondholders.

Because the 2013 restructuring plan did not achieve its expected targets, in December 2016 Portugal notified to the Commission additional recapitalisation measures. At the same time, the Portuguese government, acting in its capacity as shareholder, replaced the management team of CGD.

This article reviews the Commission’s assessment of the new measures and restructuring plan in decision SA.47178.[1]

What makes this case unusual is that it is one of the few instances where injection of public money did not constitute State aid. The recapitalisation was expected to generate sufficient return that would satisfy a private investor and therefore it conformed to the market economy investor principle.

This case also raises the following question: Had the recapitalisation not conformed to the MEIP, how would burden-sharing apply? The State was the sole shareholder. It would have to be bailed-in and in the process it would have lost part or all of its capital. Would that qualify as State aid? As I explain at the end of this article, the lost capital would not be State aid. But the aim of the burden-sharing which is to prevent moral hazard and reduce the cost to taxpayers would have been defeated.

The 2016 Restructuring Plan

The new restructuring plan identified the weaknesses of the previous plan such as unrealistic assumptions about how market conditions would develop; insufficient reduction of costs; and slow adjustment of fees and rates to changing market conditions.

“(126) The main conclusions, supported by benchmarking against the performance of other banks, are that CGD’s weaknesses are explained by unsatisfactory risk and non-performing loan [NPL] management, inadequate pricing, leading to a structurally too low net interest margin, and a lack of active restructuring measures when business environment deteriorates unexpectedly.”

To address those weaknesses, the 2016 recapitalisation measures aimed to strengthen risk management (through centralised credit risk assessment and monitoring), adjust the domestic operational infrastructure (through reduction of branches and employees) and restructure the international operations of CGD (through divestment and focusing of the operations on particular products and areas). All these objectives were costed and specific quantitative targets were set. The total amount of the various new measures was estimated to be about €6 billion. The Portuguese State would remain the sole shareholder.

The restructuring plan included the following measures:

A: Transfer of shares of Parcaixa Holding SGPS [Parcaixa], which was owned by the State, to CGD (to reduce the capital needs of CGD).
B: Transfer of CoCos held by the State to CGD.
C: Issuing of €500 million of Tier 1 instruments to be subscribed by investors not related to the State.
D: Issuing of €2.5 billion of new ordinary shares to be subscribed by the State.

Do you know we also publish a journal on State aid?

EStAL banner

The European State Aid Law Quarterly is available online and in print, and our subscribers benefit from a reduced price for our events.


Market Economy Investor Principle

Portugal argued that the recapitalisation was free of State aid because it acted as a private shareholder would have done.

The Commission, first, noted that the EU is neutral with respect to the system of property ownership (Article 345 TFEU). Then it examined whether a private shareholder would have injected the same amount of money in the bank.

Measure A concerned the transfer of shares from a subsidiary to CGD. The Commission explained that “(118) due to the implementation of Basel III rules, […], minority shareholding from subsidiaries will be progressively excluded from regulatory capital. The implementation of this rule will, for Parcaixa alone (which is 51% owned by CGD and 49% owned by Parpública Holding), decrease the capital of CGD by EUR 0.5 billion.”

“(119) In a similar situation, a private investor owning both 100% of a bank and the minority shareholding of a subsidiary of that bank would have a strong incentive to rationalise its investment and to transfer the shares of the subsidiary to the bank. In the absence of a transfer of such transfer, the investor would either have to inject additional capital in the bank, i.e. putting additional money at risk without increasing its return, or accept a dilution of its shareholding leading to a loss of control and the split of the profits of the bank. A private investor would therefore prefer transferring the shares of the subsidiary to the bank.”

However, measures B and D resulted in increased risk for the State because they converted a hybrid capital instrument into equity and because they injected additional equity into CGD, respectively. The Commission considered that those measures would be acceptable to a private creditor or investor only if the additional risk was sufficiently remunerated. The calculations of expected remuneration would have to be based on “robust and prudent assumptions under which an investor would take a similar investment decision.”

The Commission noted that “(137) as CGD did not restore its profitability despite implementing the Restructuring plan approved in 2013, a private investor would verify whether the [the new plan] is more solid and comprehensive than the Restructuring plan. In other words, a private investor would try to ensure that the [the new plan] has a much higher probability of restoring market-conform profitability of CGD.”

After reviewing the new plan, the Commission concluded that the new plan “(140) correctly identifies the weaknesses in the operations of CGD and includes an ambitious and robust roadmap to address them. The operational restructuring envisaged in the [the new plan] appears to be in line with what would be required by a private investor.”

However, this was not the end of the assessment. This is because, according to the Commission, “(141) a private investor, being either an existing shareholder of CGD or an external investor contemplating the purchase of the new shares to be issued by CGD, would find a capital plan credible if the capital needs of the Bank are correctly calculated and if the proposed way to cover them are appropriate. A private investor would notably try to minimise the amount of new equity to be raised, by generating capital through internal measures and by raising capital instruments other than equity, i.e. ordinary shares.”

The Commission found that “(145) CGD’s capital needs, as envisaged in the [new plan], seem to be calculated in a correct manner”, and that “(148) no other internal measures seem immediately available to cover the residual capital needs of EUR 2.5 billion.” “(149) Therefore, a private investor would also consider that CGD needs a capital injection of up to EUR 2.5 billion”. “(150) It seems therefore that the proposed approach to cover the capital needs fulfils the requirements of a private investor, since it minimises the amount of new equity by first taking internal capital generating measures.”

More importantly, the Commission also examined the likely return on investment. The Portuguese authorities estimated the yearly internal rate of return for a new investor at 10-20%. The Commission analysed the assumptions and calculations of Portugal.

Because some assumptions appeared to be too optimistic, the Commission calculated “(175) the expected return on the EUR 2.5 billion new money if one assumes that the value of CGD at end 2020 will correspond to the accounting equity at that time (i.e. price to book ratio of 1)”. The Commission also assumed that CoCos, i.e. measure B, would be converted to equity.

It explained that “(177) using as assumptions that measure B and measure D are made based on a value of CGD pre-recapitalisation of [0-1] times its equity, a [0-5] year period and a final value of EUR [6000-10000] million in 2020, the internal rate of return on measures B and D is estimated between [10-15%] and [10-15%] per year.” “(178) Returns on the market are currently very low with a risk-free interest rate close to 0 (10-year German government bonds). […] Therefore a yearly internal return on investment between [10-15%] and [10-15%] can be considered as satisfactory given the high risk premium offered by CGD and the premium offered to the equity investor compared to AT1 instrument to be issued on the market. An internal rate on return between [10-15%] and [10-15%] would be sufficient for a private investor. This conclusion is also consistent with the required rate of return, as estimated by Portugal, namely [10-20%]”.

On the basis of the above analysis, the Commission concluded that “(180) the State as a shareholder of CGD appointed a new experienced management team which drafted the [new plan]. The latter ensures the return of CGD to long-term viability and projects a deep restructuring of the Bank, in line with actions a private investor would require after investing in the Bank”.

“(181) However, to successfully implement the [new plan], CGD needs additional capital. […] the capital needs have been determined on the basis of income projections in the Industrial Plan and an assessment of asset value validated by an external auditor.”

“(182) Therefore, a private investor would accept to participate in the capital increase necessary to implement the [new plan] provided that the terms of the recapitalisation, i.e. the terms of the measures, their sequencing and also their return on investment are satisfactory. Whilst measure B alone does not cover the capital needs of CGD, it is necessary for the successful implementation of measure D. A private creditor would accept the conversion of CoCos if it receives enough shares offering an attractive return. Finally, measure D is also in line with the MEIP provided that the return on investment of the new shares is satisfactory.”

“(183) It would have been possible to offer a market conform return both to new investors and to the converted CoCos holders. The return on investment seems to have been overestimated in the simulations made by the State. However, after adjustments by the Commission, the expected return could still be in line with market requirements for similar transactions.”

“(184) Therefore the Commission concludes, on the basis of the notified [new plan] […], that CGD could obtain the same measures from the market and therefore measures B and D are in line with, respectively, the private creditor test and the MEIP.”

However, the Commission went on to consider the compatibility of the amendments that Portugal had notified concerning the 2013 restructuring plan.

In particular, it examined the impact on competition and burden-sharing. In relation to the latter, it should be pointed out that when the 2013 restructuring plan was approved, the 2013 Banking Communication had not come into force. While the Banking Communication requires bail-in of creditors, the earlier restructuring communication only sought to prevent banks from using State aid to remunerate own funds when their activities did not generate sufficient profits. The only restriction imposed was on the prohibition of bonuses to managers, the distribution of dividends to shareholders and the payment of coupons to bondholders.

The Commission found no significant distortion of competition, while the burden-sharing was sufficient.


A Concluding Speculative Thought

At the time of its recapitalisation, CGD was 100% State-owned. One wonders what would have happened, had the Commission concluded that the recapitalisation included State aid. The State as a shareholder would have to be bailed-in in compliance with the burden-sharing requirements of the 2013 Banking Communication.

The bailing-in would immediately raise the following question. Would the capital that would have been written-off be considered as State aid, since it belonged to the State? I do not think so. The State in this situation would be merely acting in accordance with the rules that apply to shareholders. It would have no option but to conform to EU rules. Therefore, the write-off could not be attributed to a decision of the State.

This is the legal situation. But the economic situation would be different. Whereas private shareholders would be resisting as much as possible any bail-in (as shown by the many legal challenges to recent bail-ins), the State would be indifferent. Whatever it would save from not being bailed-in, it would have to make up with additional State aid. For the already State-owned banks, the new rules of the banking union, that are supposed to sever the link between banks and sovereigns, are not really binding.

In the case of State-owned banks, the requirement for burden-sharing would not reduce the burden on tax payers. Perhaps, then, the banking union rules, in particular those of the Single Resolution Mechanism and the Banking Recovery and Resolution Directive, need to be revised so that the Single Resolution Fund or the national resolution funds always contribute first before any money is committed by the State either in its capacity as shareholder or as a public authority. The Single Resolution Fund and the corresponding national funds are capitalised with contributions by banks themselves. They are supposed to provide funds before State aid, but their regulations do not take into account the possibility that the State is now also a shareholder and can lose its capital. But when the State is bailed-in as a shareholder, it is taxpayers who are the ultimate losers. This was not the intention of the banking union.


[1] The full text of the Commission decision can be accessed at:



Phedon Nicolaides

Dr. Nicolaides was educated in the United States, the Netherlands and the United Kingdom. He has a PhD in Economics and a PhD in Law. He is professor at the University of Maastricht and the University of Nicosia. He has published extensively on European integration, competition policy and State aid. He is also on the editorial boards of several journals. Dr. Nicolaides has organised seminars and workshops in many different Member States, and has acted as consultant to several public authorities.

Hinterlasse eine Antwort

Zusammenhängende Posts

26. Sep 2023
State Aid Uncovered von Phedon Nicolaides
Non-imposition of Fines on Non-illegal Behaviour - Untitled design 9

Non-imposition of Fines on Non-illegal Behaviour

Introduction Advantage is any benefit that an undertaking obtains from the intervention of the state. In some situations, however, an undertaking may derive an advantage the non-intervention of the state or, more broadly, from the failure of the state to act. This would be the case where the state does not charge a fee to a user of a state […]
03. Nov 2020
State Aid Uncovered von Phedon Nicolaides
Evaluation of EU State Aid Rules: Need for Greater Transparency - office 4249408 1920

Evaluation of EU State Aid Rules: Need for Greater Transparency

On Friday, 30 November 2020, the European Commission published a Staff Working Document [SWD(2020) 257 final] presenting and assessing the results of the evaluation of the main State aid rules of the EU. The SWD explains the aims of the State Aid Modernisation [SAM] that was launched in 2012 and summarises the findings of the Fitness Check of the GBER, […]
18. Aug 2020
State Aid Uncovered von Phedon Nicolaides
MEIP-Compliant Bank Recapitalisation: CEC Bank - money 1064126 1920

MEIP-Compliant Bank Recapitalisation: CEC Bank

An investor who is already a shareholder would take into account not only the return on new investment but also the impact on the overall profitability of the company in which capital is injected. Update on Temporary Framework: Number of approved and published covid-19 measures, as of 14 August 2020: 252* Legal basis: Article 107(2)(b): 27; Article 107(3)(b): 211; Article […]
14. Jul 2020
State Aid Uncovered von Phedon Nicolaides

2019 Competition Report

The Annual Competition Report is a useful document, but it should provide more information on the results of the ex post evaluations and ex post monitoring. Update on Temporary Framework: Number of approved and published COVID-19 measures, as of 10 July 2020: 202* Legal basis: Article 107(2)(b): 20; Article 107(3)(b): 171; Article 107(3)(c): 17 Six Member States have implemented 11 […]
11. Jun 2020
Guest State Aid Blog von Erika Szyszczak
When State Aid Gets Political - brexit 3870554 1920

When State Aid Gets Political

We are happy to receive a guest comment on the EU – UK post-Brexit trade negotiations from Professor Emerita, Erika Szyszczak, who is a Fellow of UKTPO at the University of Sussex. This is a longer version of an earlier Blog published on the UKTPO website. Control over State aid is a stumbling block for the future of an EU […]
09. Jun 2020
State Aid Uncovered von Phedon Nicolaides
pills on money

Private Investor and Preferential Regulatory Treatment

The existence of an advantage has to be proven, not presumed just because its absence cannot be confirmed. Preferential treatment may distort competition but it is not necessarily State aid if there is no transfer of state resources. Temporary Framework: Number of approved covid-19 measures, as of 5 June 2020: 148* Legal basis: Article 107(2)(b): 13; Article 107(3)(b): 125; Article […]
05. Mai 2020
State Aid Uncovered von Phedon Nicolaides
corona virus poster

Non-recovery of Incompatible State aid Is Costly

Legal and practical difficulties in the recovery of incompatible State aid do not constitute justifiable “absolute impossibility”. Temporary Framework On 1 May, the total number of State aid measures to combat covid-19 approved by the European Commission reached 102. Their legal basis was: Article 107(2)(b): 9; Article 107(3)(b): 86; Article 107(3)(c): 7   Introduction The 2020 Temporary Framework for State […]
27. Apr 2020
State Aid Uncovered von Phedon Nicolaides
corona virus poster

Identification of Undertakings in Difficulty

A company is in difficulty if, in practice, its accumulated net losses exceed 50% of its subscribed capital, regardless of whether the subscribed capital is formally written down. The classification of a company as being in difficulty is independent of the sector in which it operates and of whether a private investor would be willing to invest in it. Temporary […]
17. Apr 2020
Guest State Aid Blog von Michail Kamperis
Corona Virus

COVID-19 Measures Adopted and State Aid Measures (Hopefully) to Be Adopted: An Update from Cyprus

We are happy to share with you an update on the Covid-19 measures that are or will be adopted in Cyprus. Our guest auhor Michail Kamperis is a lawyer and partner at the law firm of Ierotheou, Kamperis & Co. LLC Nicosia, Cyprus. * Sign up for our free news alert  Sign Up For Free   Cyprus is one of […]
09. Apr 2020
Guest State Aid Blog von Lexxion Publisher
Woman sitting by the computer

Follow Up Webinar with Phedon Nicolaides on ‚COVID-19 and State Aid Law‘ on 20 April

The European Commission is working on quickly adapting the existing State aid legal framework to address the current Covid-19 pandemic. Join us on 20th April from the comfort and safety of your (home) office to get an insider update on the Covid-19 response by State aid experts from the European Commission and national governments. ✓ Join from wherever you are – […]