The Swiss Financial Market Supervisory Authority (FINMA), the Swiss National Bank, UBS and Credit Suisse are involved in lawsuits concerning or revolving around the complete write-down of AT1 bonds worth 17.1 billion Swiss francs. The owners of AT1 bonds have been left completely out in the cold. The Swiss authorities decided thus that these bondholders would receive nothing at all. This is completely at odds with the usual hierarchy of losses when a bank collapses, with shareholders usually last in line for any payout. Now thousands of plaintiffs have filed lawsuits with the Federal Administrative Court to recover their investments, respectively obtain a compensation. The outcome is uncertain, the legal arguments being mainly based on contractual terms (Prospectuses of the AT1 Bonds), the (un-)proportionality and (un-)adequateness of this measure, and the Swiss Constitution. The market value of the bonds just before the write-down could be taken as a benchmark to measure the size of any potential compensation. The individual statutory deadlines for suing are unclear and more lawsuits could still follow, possibly from abroad also.
1. What are Additional Tier 1 (AT1) bonds?
In the case of so-called mandatory convertible bonds or mandatory convertible notes (MCNs), the creditors’ claim is automatically converted into an equity participation of the issuer at the end of the term. Additional Tier 1 (AT1) bonds are a special form of mandatory convertible bonds. AT1 Bonds are also known as “contingent convertibles”, or “CoCos”. AT1 bonds are supplementary own funds for absorption upon the occurrence of certain conditions (trigger event) with the aim of preserving the going concern (“viability”) of the bank before formal resolution procedures are initiated. If a lender gets into trouble, this class of bonds can be quickly converted into equity, or written down completely. Because they are higher-risk, AT1s offer a higher yield than most other bonds issued by borrowers with similar credit ratings, making them popular with institutional investors.
2. What is the controversy and what would be the basis for a full write-down of the nominal value (worthless) of the AT1 capital instruments issued by Credit Suisse?
It is not the write-down of Credit Suisse’s AT1 bonds itself that has rocked investors, but the fact that the bank’s shareholder will receive some compensation when bondholders will not. Ordinarily, bondholders are higher up the pecking order than shareholders when a bank fails. But because Credit Suisse’s demise has not followed a traditional bankruptcy, the same rules does not apply. In the case of Credit Suisse, shareholders have been paid and AT1 holders are paid zero.
When the Swiss government and the Swiss regulator forced UBS to bail out Credit Suisse, one of the conditions was that the AT1 instruments with an equivalent value of 17.1 billion Swiss francs be written down as worthless. As a result, the Swiss Financial Market Supervisory Authority FINMA ordered Credit Suisse to write-down the AT1 bonds as worthless. In a media release dated March 23, 2023, FINMA explained the two disputed bases:
i. The contractual issuance prospectuses of the bonds
The AT1 instruments issued by Credit Suisse contractually provide that they will be completely written down in the event of a trigger event (“Viability Event”), in particular if extraordinary government support is granted. According to FINMA, since Credit Suisse was granted extraordinary liquidity assistance loans secured by a federal default guarantee on March 19, 2023, these contractual conditions would be met for the AT1 instruments issued by the bank.
ii. The Federal Council’s Emergency Ordinance
On March 19, 2023, the Federal Council enacted the Emergency Ordinance on Additional Liquidity Assistance Loans and the Granting of Federal Default Guarantees Assistance Loans by the Swiss National Bank to Systemically Important Banks. This Emergency Ordinance granted FINMA new authority to write-down AT1 capital under the Swiss National Bank’s Emergency Liquidity Assistance (“ELA”; ELA can only be granted if the entity is deemed solvent) for systemically important institutions in Switzerland. The Ordinance authorizes FINMA to order the Borrower and the Financial Group to write down additional tier 1 capital.
3. Are there any appeals to the Federal Administrative Court?
Thousands of holders of Credit Suisse’s AT1 bonds suffered a total loss equivalent to 17.1 billion Swiss francs in the bank’s emergency takeover by UBS. In a media release dated May 23, 2023, the Federal Administrative Court (“FAC”) in St-Gallen announced that approximately 230 appeals (by mid-July 2023, the number would now be even more than 320 appeals) against FINMA’s ruling of March 19, 2023, regarding the instruction to write down the AT1 instruments have been received by the FAC, involving approximately 2500 appellants from Switzerland and abroad. Among the challengers is the pension fund of Migros, Switzerland’s largest retail chain, which lost about 100 million Swiss francs when the bonds were written down. These proceedings are still pending and the FAC has not informed when a judgement will be handed down.
Credit Suisse Group AG has also submitted an application for precautionary measures to the FAC on April 24, 2023. From CSG AG’s point of view, this did not cover the contingent capital awards (CCAs), which had not been issued by CSG AG itself but had been granted by other Group companies to their respective employees as part of their compensation. However, FINMA denied this view in a ruling on March 22, 2023. On May 9, 2023, CSG AG finally informed the FAC that it had decided not to file an appeal and withdrew its application for precautionary measures.
4. What are the legal arguments of the appellants?
The main goal of the bondholders is to get their investment back. For this to happen, the St. Gallen Court would have to decide that the Finma ruling should be annulled.
The legal dispute mainly revolves around whether the conditions to write down the bonds were met and whether it was a proportionate measure. Point 16 of FINMA’s order states the conditions under which the trigger event “viability event” in the contractual issuance prospectuses, which can lead to a write-down, is given. Here are the plaintiffs’ lines of attack. The question is whether, according to the issuance prospectus, a write-down of the bonds was only possible if the bank had received government support and this had the effect of improving its capital situation. That was not the case in the strict sense. CS met the capital requirements even at the height of the crisis.
In this sense, the emergency decree may have played a decisive role, since it alone could have made it possible to write down the bonds. Indeed, this question stings: but if there was a ” viability event “, why was the contractual clause not triggered by Credit Suisse itself and legislation had to be put forward to give FINMA the power to impose the write-down on CS as part of the Emergency Liquidity Assistance?
If the contractual terms of the bonds were not sufficient to bring about the write-down, the discussion could shift to the proportionality and appropriateness of the emergency regulation introduced, especially since the cancellation of the AT1 bonds did not help to improve CS’s liquidity situation and thus avert its demise.
5. What are the chances of success in court?
The outcome remains completely open. The courts should determine whether Credit Suisse has already exceeded the minimum capital requirements and why the Swiss regulator FINMA did not initiate formal resolution proceedings with full application of the seniority of claims and cancellation of equity. The courts will have to decide whether the decision to write down the bonds, which was backed by the government’s emergency law, was a proportionate and expedient response to Credit Suisse’s difficulties. This is a legal “gray area.”
If the court refuses to reinstate the bonds, the claimants will still seek compensation because their investments were “expropriated” by FINMA, just as private land can be expropriated for public use.
6. How much would the compensation be?
To receive any compensation at all, plaintiffs must convince judges that the government’s emergency law that supported the Credit Suisse takeover amounts to expropriation. Such a ruling is also subject to judicial interpretation. It is not clear then what standard the judges would use for compensation.
For example, judges could use the following benchmark: the bonds were trading at about 40% of their face value on March 17, the last trading day before FINMA broke them up – a market value of about $6.8 billion.
7. Have the filing deadlines passed, can I still file a complaint?
There were roughly 230 appeals on May 23, 2023, and to mid-July 2023 there would even be over 320 appeals received by the FAC, because it is unclear what the statutory time limits for filing an appeal are. To date, the FAC has not commented on whether the deadline for filing additional complaints has passed. There may still be time to analyze the situation if you have been affected and harmed. Lindemannlaw is available to discuss and evaluate the situation with you. In addition, there are rumors that law firms in Singapore and Japan are preparing (and may have already filed) lawsuits against the Swiss authorities, possibly by initiating arbitration proceedings under the international investment treaties that these countries have concluded with Switzerland.
The decision itself on the question of whether the write-down of the bonds was justified will be decided on the basis of a single pilot case before the FAC. Thereafter, it will be possible to appeal against this decision to the Swiss Federal Supreme Court.
Please feel free to contact us for more information, we are happy to help.
