Over the past few years, Brazil has been facing the constant and significant development of its equity and debt capital markets’ regulatory framework. Such legal framework has been subject to various amendments and updates, in an attempt by local regulators to simplify and modernise rules, promote higher standards of efficiency regarding public offers, promote the adoption of better corporate governance, and foster access to the capital markets by Brazilian issuers and investors.
Despite the current economic crisis, from the second half of 2015 to date, a number of public offerings have been implemented in the local markets, not only involving issuances of debt securities (such as the debentures offerings implemented by EDP Brasil, Comgas and AES Tiete, as well as bond offerings structured for foreign investors as those made by Petrobras, Vale and Marfrig), but also equity offerings – a new trend that has been verified since the end of 2015 (including one registered equity offering (Energisa SA) and 10 restricted equity offerings,2 such as those implemented by CVC Brasil and Rumo Brasil Multimodal, which together raised over 8 billion reais).
The local capital markets have also faced the challenge of a political unstable scenario, as witnessed by the proceedings and discussions regarding the impeachment of President Dilma Rousseff over the past few months. Upon the confirmation of her impeachment in the second half of 2016, and the appointment of a new, market-friendly team at the Brazilian finance federal department, there is an expectation that the economy should get back on track, and that further transactions in the local equity and debt capital markets should be verified.
In this regard, a new concessions plan was released by the federal government on September 2016 to foster the privatisation of infrastructure-related entities and projects. One of the main goals of this new programme involves the attraction of private investors to provide the long-term funding required for these projects, and the government has specifically said that it expects that capital markets perform an important role in the provision of the financing that is needed (by means of debentures offerings).
In fact, a number of rules were enacted over recent past years to foster access to the capital markets for the long-term financing of infrastructure projects of local companies and the development of the debt securities secondary market (as per the provisions set forth by Law 12,431 which created the ‘infrastructure debentures’). In recent years, a number of local companies have relied on public offerings of these types of infrastructure debt instruments to obtain the funding required for their infrastructure projects in an amount totalling more than 20 billion reais from 2012 to 2015.
The current scenario of the local capital markets evidences that companies with a need for long-term financing (and investors with a demand for adequate investments) have all the necessary tools and mechanisms – and are indeed relying on such instruments – to use the local equity and debt capital markets for their funding and capital needs.
i Current legal framework
The Brazilian financial and capital markets system is a highly regulated sector, and is essentially composed of regulatory bodies such as the National Monetary Council (CMN) and the National Council of Private Insurance, and supervisory bodies such as the Central Bank of Brazil (Central Bank) and the Brazilian Securities and Exchange Commission (CVM), which supervise, regulate and inspect, as the case may be, publicly held corporations, financial institutions and stock exchanges, among other entities.
According to Brazilian securities law (Law 6,385, of 7 December 1976, as amended), the CVM regulates, develops, controls and inspects the securities market. The CVM is also responsible for regulating:
- a the examination and inspection of publicly held companies;
- b the trading and intermediation of the securities and derivatives markets;
- c the organisation, functioning and operation of stock markets, commodities and futures markets; and
- d the management and custody of securities.
Typically, federal laws applicable to the capital markets in Brazil contain general provisions, and their main purpose is to establish what Brazilian capital markets comprise, who may be the agents of the market, the different independent agencies that have powers to oversee it and the limits of their authorities. The regulations that set forth the specific set of rules that each player and transaction has to comply with are the CVM’s instructions, Central Bank circulars and CMN resolutions. This system benefits the Brazilian capital markets, as the enactment of laws is a very bureaucratic procedure that cannot keep pace with the constant changes financial and capital markets suffer, and the enactment of Central Bank, CMN and CVM regulations involves a more quick and effective way of regulating such markets.
Most of the relevant capital markets regulations have been issued recently by the CVM in an attempt to update and modernise the Brazilian market. Among such regulations, it is worth mentioning:
- a Instruction No. 358, of 3 January 2002, which contains rules on the disclosure and use of relevant information regarding publicly held corporations, and restrictions on the trading of securities;
- b Instruction No. 361, of 5 March 2002, with rules on tender offers;
- c Instruction No. 400, of 29 December 2003, which sets forth the rules applicable to public offerings of securities in the local market;
- d Instruction No. 476, of 16 January 2009, which contains rules applicable to automatic registration of public offerings to qualified investors (restricted offers);
- e Instruction No. 480, of 7 December 2009, with provisions on registration as a publicly held corporation in Brazil;
- f Instruction No. 559, of 27 March 2015, with provisions on the approval of depositary receipt programmes of Brazilian securities, to be negotiated abroad; and
- g Instruction No. 560, of 27 March 2015, with provisions on the registration, requirements and disclosure of information regarding foreign investors.
The structure of the Brazilian financial and capital markets is also composed of a self- regulatory agency called ANBIMA (the Brazilian Association of Financial and Capital Markets), which created a set of rules with increased corporate governance for its associates (inter alia, banks, underwriters, brokerage firms, investment banks) to comply with. Currently, ANBIMA has a partnership with the CVM in order to expedite the registration of follow-on offers. By means of such partnership, ANBIMA is responsible for examining and making demands as regards offering documents (ANBIMA’s time limit to make demands is much shorter than the CVM’s on a regular public offer), and after ANBIMA is satisfied with the documents, they are subjected to the CVM’s final approval of the public offering.
Brazil currently has one registered stock exchange that allows companies to publicly trade their shares, BM&FBOVESPA. It is worth mentioning that, in addition to the set of regulations provided by the CMN, the CVM and the Central Bank, publicly held companies that wish to trade their shares on the stock exchange must also comply with BM&FBOVESPA’s regulations (which contemplate, inter alia, regulations on minimum corporate governance requirements that must be observed by listed corporations). In terms of debt securities (inter alia, commercial papers, debentures), typically the trading of publicly offered securities is verified in authorised custody and settlement entities, such as CETIP SA – Mercados Organizados (CETIP), which also sets forth rules and regulations to be complied with by all participants in its electronic trading system.
II THE YEAR IN REVIEW
i Developments affecting debt and equity offerings
Novo Mercado Rules public hearing
A public hearing process is underway to change the Novo Mercado Rules, BM&FBOVESPA listing segment with the highest corporate governance requirements.
Among the suggested amendments it is worthwhile mentioning:
- a the inclusion of a mandatory takeover bid in the case of an acquisition of shares representing more than 30 per cent of the company’s corporate capital, except if:
• there is another shareholder with more than 30 per cent of the corporate capital; or
• the acquisition takes place during the completion of the tender offer aimed at all the company’s shares with a minimum price offered equal to the highest price paid by the purchaser within the 12 months prior to the achievement of such percentage; or
• there is a merger, acquisition or merger of shares;
- b the creation of audit, remuneration and evaluation statutory committees; and
- c the reduction of the minimum free float from 25 to 20 per cent if the company’s shares average trading volume is not higher than 25 million reais within the previous 12-month period.
As of 11 November 2016, there will be a public hearing restricted to Novo Mercado companies that shall vote on their approval of the changes after 6 February 2017.
Investment-based crowdfunding offerings public hearing
In August, the CVM issued a public hearing regarding the enactment of an instruction regarding investment-based crowdfunding offerings. The ruling would not be applicable to every kind of crowdfunding; for instance, donations, loans or contributions that entitle the receipt of souvenirs, rewards or participation in the pre-sale of products or services are not included. It would apply in cases in which an idea, a project or a business presents itself as an investment opportunity that generates participation, partnership or remuneration rights.
The draft determines that companies that earn up to 10 million reais per year will be able to raise up to five million reais in one or more offerings within one year. An important aspect of such offerings is that they would not have to be registered with the CVM. Each investor would be able to invest up to 10,000 reais per year or more if it is a qualified investor, an angel investor or annually earns more than, or has investment gross assets of more than, 100,000 reais.
If the instruction is approved as suggested by the CVM, this type of offering will only be allowed to be implemented by means of internet platforms registered with the CVM, which must comply with minimum requirements such as:
- a minimum capital;
- b officers’ and directors’ suitability;
- c the existence of the human and technological resources appropriate for the rendering of the required services; and
- d production of adequate disclosure materials.
Agricultural business-related securities indexed on the exchange rate of foreign currency
In September 2016, Law No. 13,331 was enacted, and agricultural receivable certificates (CRAs) and agribusiness credit rights certificates (CDCAs) are now allowed to be indexed in a foreign currency exchange rate (the same is also valid for debentures offerings). For such indexation to be possible, CRAs and CDCAs have to be backed on credit rights indexed on the same foreign currency; be negotiated with investors that do not reside in Brazil; and observe further conditions determined by the CMN.
The main purposes of such permission is to allow foreign investors to acquire those securities, facilitating the access of local producers to the required capital by means of foreign capital markets, and fostering Brazilian agricultural business.
It is worth mentioning that CRAs and CDCAs are exempted from personal income tax and from tax over capital gains.
Public offering of structured transaction certificates (COEs)
On 14 October 2015, the CVM enacted Instruction 569, which regulates the public offering of COEs. COEs are certificates issued against initial investment, representing a single and indivisible set of rights and obligations, with a remuneration structure presenting characteristics of derivative financial instruments. An interesting aspect on such offerings is that they do not have to be registered with the CVM. COE public offerings have to be made by underwriters authorised to act on the securities distribution markets, except if the securities are issued by multiple banks, commercial banks and savings banks.
Perfection of security interests over certain securities and derivative agreements
As from January 2016, the perfection of security interests over certain securities and derivative agreements, which had to be mandatorily performed through the registration of the respective agreements before the competent registries of deeds and documents, was permitted to be carried out before entities authorised to perform such registrations by the Central Bank and the CVM.
Such proceeding has been discussed in the local market for years. It was first introduced into the Brazilian legislation in 2011 and regulated by the CVM a couple of years later. Nevertheless, such feature only became effective in 2016, when the systems provided for by CETIP and BM&FBOVESPA were made available, meeting the deadline for availability established by the CVM.
Although enacted in 2011, Law 12,431 (which created infrastructure debentures) was subject to certain amendments during 2011 and 2012, and it was only from 2013 to 2014 that public offerings of such instruments began to take place.
These debt instruments may be issued by local companies that have infrastructure projects deemed as relevant by local authorities in, inter alia the following sectors: energy, telecommunications, transportation, urban mobility, aviation, and science and technology. The minimum requirements for these securities include:
- a a minimum term of four years;
- b indexation based on local price indexes;
- c interest to be paid at least every 180 days; and
- d offer proceeds to be used exclusively for the purposes of the infrastructure project.
To foster the use of such long-term funding alternatives by local companies, the federal government created tax exemptions applicable to investors of infrastructure debentures (such as zero per cent withholding income tax (WHT) on interest paid to individuals and foreign investors).
Law 12,431 had a provision prohibiting the issuer of such securities from rebuying them within the first two years after their issuance or settlement, and from carrying out the early redemption through redemption or pre-payment, except as provided by the CMN.
In April 2016, the CMN, through Resolution No. 4,476, regulated early redemption, establishing that the early redemption of such securities can be made provided that the issuer complies with the following: at least four years have passed after the issuance; the indenture specifically provides for the early redemption and the criteria for determining the amount paid to the holders of such securities; and the early redemption aims at all the securities issued (partial early redemption is prohibited).
New regulation for private equity investment funds (FIPs)
In August 2016, the CVM enacted two new instructions: Instruction No. 578, which amends rules regarding the incorporation, management and activities of FIPs; and Instruction No. 579, which provides for rules regarding the preparation and disclosure of financial statements of FIPs.
With these new instructions, FIPs are now allowed to invest in non-convertible debentures, which was not possible before. Such investment is limited to 33 per cent of the FIPs’ total subscribed corporate capital. This change will allow such funds to diversify their investment strategy, mixing equity securities with debt securities. It is important to note that, even when investing in debt securities, the FIP must have an effective voice within the company’s management and guarantee it through the securities instrument. Another type of investment that became an option for FIPs after the enactment of these instructions is an investment in quotas representing the corporate capital of Brazilian limited liability companies.
The effective voice requirement, common for FIPs, under Instruction No. 578, is waived when the initial investment made by the FIP is reduced to less than half and represents less than 15 per cent of the corporate capital of the invested company; or the book value of the investment is reduced to zero, provided that such lack of effective voice is approved by a quotaholders of the FIP’s general meeting.
Another important change is FIPs’ having permission to invest, directly or indirectly, in foreign assets up to 20 per cent of their subscribed corporate capital, provided that such assets have the same characteristics as the Brazilian securities FIPs are allowed to invest in.
ii Relevant tax law
On 31 August 2015, the Federal Revenue Offices enacted Normative Ruling No. 1,585 of the Brazilian Federal Revenue (IN 1,585), aimed at updating and consolidating rules regarding the taxation of income and gains recognised by local and foreign investors in financial transactions carried out in the Brazilian markets.
Before the introduction of IN 1,585, it was common that investors contributed their equity interest in corporations to investment funds and, whenever such corporations paid dividends, these were paid directly to the quotaholders of the funds, such amounts being exempted from income tax as the legal nature of said payments would remain as dividends (which are exempted from income tax under the current tax regulations).
According to this new regulation – the lawfulness of which in respect of this specific provision is debatable – the direct on-payment of dividends by investment funds whose portfolios are focused on equity interest to their quotaholders would be treated as a legal act equated to a redemption or amortisation of quotas and, therefore, WHT would apply at the general 15 per cent rate.
Specific rules for new types of investment
On 5 September 2013, the CMN issued Resolution No. 4,263 regulating the issuance by Brazilian financial institutions of a new funding instrument: structure transaction certificates (COEs). COEs are ‘certificate(s) issued against initial investment, representing a single and indivisible set of rights and obligations, with a remuneration structure presenting characteristics of derivative financial instruments’, and may be issued exclusively by multiple banks, commercial banks, investment banks and savings banks, in book entry form and upon registration in registry and settlement systems authorised by the Central Bank or the CVM.
According to IN 1,585, COEs’ profits are subject to income tax at a regressive tax rate starting at 22.5 per cent and rising to 15 per cent. If the settlement of the COE occurs through the delivery of assets, including shares, the acquisition cost of the asset can be deemed as the acquisition cost of the COE. Losses arising out of COE investments cannot be compensated with profits on equity transactions by a natural person; nevertheless, legal entities can deduct such losses from their taxable profits.
Exemption from income tax on capital gains of a natural person on investments in various securities
The former regulation exempted certain debt securities (LCIs, LCAs, CRAs, CRIs, CDA/WAs, CDCAs and CPRs) from income tax; nevertheless, they were not exempted from tax over capital gains. According to the provisions of IN 1,585, such investments are exempted from tax over capital gains – a positive change that has been requested by the market for a long time.
Changes in capital gains rates
Under Brazilian tax law, the general rule is that non-resident investors are subject to the same tax rules applicable to individuals that are tax residents in Brazil when it comes to income and capital gains derived from transactions carried out in Brazilian financial and capital markets.
In this scenario, capital gains derived by foreign investors on the disposition of shares in Brazilian companies have been generally subject to WHT at a 15 per cent rate. Effective 1 January 2017, however, Brazilian law (Law 13,259/2016, as converted from Provisional Measure 692/2015) changes such rate to a progressive regime under which the applicable rates vary as follows:
- a 15 per cent on gains that do not exceed 5 million reais;
- b 17.5 per cent on the portion of gain exceeding 5 million reais, but that is lower than 10 million reais;
- c 20 per cent on the portion of gain exceeding 10 million reais, but that is lower than 30 million reais; and
- d 22.5 per cent on the portion of gain that exceeds 30 million reais.
Only if the investor is based in a blacklisted tax haven jurisdiction would these rates be increased to a flat 25 per cent rate.
It is worth mentioning that capital gains accrued on the disposition of Brazilian listed stock, when carried out in the Brazilian Stock Exchange by an investor registered pursuant to the terms and conditions of Resolution No. 4,373/2014 that is not located in any blacklisted tax haven jurisdiction, qualifies for a full exemption from WHT. As a result, if a 4,373 investor disposes of shares in a Brazilian listed company at a gain in the Brazilian Stock Exchange, this transaction would be exempt from any WHT in Brazil.
III OUTLOOK AND CONCLUSIONS
Brazil has a comprehensive legal framework in terms of securities laws and regulations applicable to investors and issuing companies, and requirements that must be observed by each type of equity or debt security. In recent years, local regulators have enacted a number of rules completing and updating this legal framework to provide better access to the capital and financial markets by local companies, and detailed guidance and transparency to local and foreign investors that are willing to acquire securities issued in Brazil.
This effort – witnessed in recent months with the enactment of the set of rules described in this chapter – is recognised by market players. In fact, its results have been verified in practical terms: in spite of the current economic crisis affecting Brazil, a number of debt and equity securities public offerings have been observed in the local market over the past few months, evidencing that both investors and issuing companies are increasingly relying on the capital markets for their (short as well as long-term) funding and capital needs.
1 Ricardo Simões Russo is a partner and Gustavo Ferrari Chauffaille and Luiz Felipe Fleury Vaz Guimarães are associates at Pinheiro Neto Advogados.
2 Restricted public offerings are the ‘476 offerings’, which are granted with automatic registration provided that the securities are only offered to a limited number of qualified institutional investors.