Delisting in the issuer’s insolvency? A far from clear-cut case

What happens to the listing if the issuer of listed securities—equity or debt—defaults, and bankruptcy proceedings are initiated? Prima facie, the case may appear rather clear: If and when a corporation becomes insolvent, the listing of shares or bonds issued by that firm ought to be terminated. Once the bankruptcy (or insolvency) proceedings has been initiated, the securities will have fallen drastically in value, and quite frequently will fall short of listing requirements set by public regulation or by the relevant trading place. At any rate, considerations for the protection of investors will require the immediate termination of exchange-based trading. In other words, mandatory delisting should be the standard response (which might have to be triggered, for the same reasons, already in the vicinity of formal bankruptcy). Or should it?

Upon closer inspection, as revealed already in a paper by US scholars in 2008 and examined further in the context of a joint international research project in my recent book chapter, the picture is more complex than that, and existing approaches vary greatly between jurisdictions.

In fact, insolvency-related failures of issuers of exchange-listed securities present a complex set of problems that transcend the characteristic conflicts between owners (shareholders) and (various classes of) creditors insolvency (bankruptcy) procedures seek to resolve. Already in the vicinity of insolvency, ie, when the issuer faces substantial financial problems but remains below the thresholds for initiating formal insolvency procedures, trading in the relevant securities may change its nature and become affected by drastic changes in price. These may be attributable to sudden concerns among investors, speculative acquisitions, or both. The same holds true, and to an even greater extent, upon initiating formal insolvency procedures.

From a capital markets perspective, concerns about the protection of investors may indeed appear to militate for a mandatory delisting—or at least a mandatory suspension of the listing—in such circumstances. On closer inspection, however, the appropriate response is more complex and depends on the nature and objectives of the relevant insolvency procedure. Against this backdrop, it is, perhaps, not surprising that the legal and regulatory frameworks governing the (de)listing of insolvent issuers vary considerably between jurisdictions. Based on a comparative overview of different jurisdictions, my paper discusses the existing policy options and examines potential implications for future EU harmonisation. Specifically, the paper examines whether EU law—that is, the current version of the Market in Financial Instruments Directive (MiFID II), complementing the existing enforcement powers for competent authorities in articles 69(2) and 52(1)—ought to define a harmonised approach to the suspension and/or termination of listed securities in the issuer’s insolvency.

In this context, the paper identifies three fundamental aspects that should inform relevant policy:

First, concerning equity and debt investors alike, the financial crisis of an issuer, from the occurrence of substantial losses to the moment it meets balance-sheet or liquidity-based tests for the commencement of insolvency proceedings, is a continuum characterised by a shift in risks and incentives. Trivial though it may appear, this finding is nonetheless important in that it militates against black-and-white solutions regarding the listing of relevant securities. To the extent that the economic value of listed securities has not yet fallen to zero, both the issuer and the existing investors may have an ongoing interest in the preservation of the listing as such. From the issuer’s perspective, this interest may be motivated by reputational aspects (an obligatory delisting might contribute to the bad perception of a failing firm and might thus impact even the availability of non-market-based funding sources). Alternatively, it may be motivated by the costs that would have to be incurred in connection with a re-entry into the market during a restructuring (eg, through a capital increase or the issuance of new bonds), or both factors simultaneously. From the existing investors’ perspective, preserving the issuer’s listing may be attractive as it facilitates flexible reactions to the abovementioned incentives, specifically a hold-out combined with last-minute sales. At the same time, depending on the circumstances, speculative investors hitherto unconnected with the issuer could use the opportunity to acquire shares at low cost, particularly where they feel that there are prospects of recovery or they are interested in specific assets of the firm. For both types of actors, early termination (or even the suspension) of the listing of securities issued by failing companies will be outright harmful.

Second, the shift in the risk profile of both equity and debt instruments will inevitably affect the risk assessment by investors and thus influence market prices, turning the relevant instruments into a highly speculative investment in all cases. These effects are particularly dramatic in the case of instruments listed in highly regulated markets with restrictive entry standards aiming at a high level of investor protection, as the relevant securities will no longer be suitable for (retail) investors interested in investments with moderate risk levels. Compared with the first observation above, this consideration highlights the problematic implications of continued trading for prospective (retail) investors unfamiliar with the issuer’s financial problems and relying on the trading venue’s enforcement of listing standards as a protection.

Third, the market operators' interest in preserving the listing (and the trading fees) may, in the circumstances, outweigh investor concerns that might require suspending or terminating a failing issuer’s listing. As discussed in prior academic literature, this may provide incentives to delay the suspension or termination of listings even in cases of serious breaches of listing requirements, including the issuer’s insolvency.

The insights sketched out above require an intricate balance between the interests of the issuer and present investors on the one hand and prospective investors on the other hand regarding the delisting decision. Markets or market segments with restrictive listing requirements, such as ‘regulated markets’ governed by harmonised European securities law, will be less tolerant of trading in securities issued by companies in financial distress, resulting in an early termination of the listing in insolvency. In contrast, markets or market segments with lower requirements may be kept open for extended periods. Against this backdrop, and in the light of potentially adverse implications for investors resulting from diverging practices on different European trading venues, the paper argues in favour of (modest) harmonisation in the field.

Jens-Hinrich Binder is Professor of Law at Eberhard Karls University Tuebingen.

The full paper is available here.