Bond Covenants in the Italian Legal System: An Analysis

This study proposes an analysis of bond covenants in the Italian legal system, their benefits, and possible reasons for their adoption. The study also provides an overview of bond features and current regulations for bondholder protection.

INTRODUZIONE + PRIMA PARTE CAPITOLO 1
Introduction
This study proposes that the introductory analysis of a particular category of contractual clauses still
uncommon in the Italian legal system, contrary to international financial practices, particularly Anglo-Saxon,
where the so-called bond covenants characterize many of the statutes of issue of bonds .
The favor of those same contractual instruments in markets across the border, finds its justification in the
greater control that they are able to provide bondholders with regard to the issuing company, forcing the
latter to advance compensation for the loan or the payment of a best interests if the conditions attached to the
loan are not met. The benefit associated with the adoption of this contractual technique is twofold: the more
intense assurance gained from creditors is to pay a smaller financial commitment of the company, which will
to satisfy their need for financing on better terms than those normally taken.
The process of investigation opens presented outlining a brief glimpse of the current regulations for the
protection of the bondholder investor unprofessional, fruit of the union, perhaps not always consistent, the
recent reform of company law and the subsequent legislative intervention conducted in the protection
savings.
In connection with the outlined legal framework, the second section will address the issue of the possible
reasons of interest to the adoption of the bond covenants within the Italian financial scene, with special
attention to the singularity and the unique needs presented by the national economy.
AN OVERVIEW ON BOND COVENANTS
Bond's Features
Following the entry into force of the new company law, the traditional dichotomy between equity capital and
borrowed capital does not appear to be numbered among the key points of the regulatory framework of the
spa's many ties that unite the current discipline focus on action, to bonds and other financial vehicles
envisaged by the reform in fact they tend to align the positions of the subject in various capacities participate
collective undertaking, making it difficult for a reconstruction of the profiles that characterize these figures
clearly before surgery operated by the news. Excluding dating sharing experiences from the specialized
agencies in the provision of industrial credit, as well as the fracture accomplished with the introduction of
savings shares and drift aticipi titles of 70 years, the Italian corporate law has always kept separate different
role assumed by the creditor of the corporation than the shareholder thereof; Since 2003 this certainty seems
however definitely crack, not only due to a more intense shade of the figure of the shareholder, operated by
the insertion of share classes particularly flexible and adaptable, but also thanks to the introduction of special
funds and, above all, "chameleon-like" instruments referred to in the sixth co. art. 2346 cc, ie securities
actually endowed with the ability to take on much of its shades of shares as of the bonds. The Italian

company law has always kept separate different role assumed by the creditor of the corporation than the
shareholder thereof; Since 2003 this certainty seems however definitely crack, not only due to a more intense
shade of the figure of the shareholder, operated by the insertion of share classes particularly flexible and
adaptable, but also thanks to the introduction of special funds and, above all, "chameleon-like" instruments
referred to in the sixth co. art. 2346 cc, ie securities actually endowed with the ability to take on much of its
shades of shares as of the bonds. The Italian company law has always kept separate different role assumed
by the creditor of the corporation than the shareholder thereof; Since 2003 this certainty seems however
definitely crack, not only due to a more intense shade of the figure of the shareholder, operated by the
insertion of share classes particularly flexible and adaptable, but also thanks to the introduction of special
funds and, above all, "chameleon-like" instruments referred to in the sixth co. art. 2346 cc, ie securities
actually endowed with the ability to take on much of its shades of shares as of the bonds. not only due to a
more intense shade of the figure of the shareholder, operated by the insertion of share classes particularly
flexible and adaptable, but also thanks to the introduction of special funds and, above all, the "chameleon-
like" instruments referred to in the sixth co . art. 2346 cc, ie securities actually endowed with the ability to
take on much of its shades of shares as of the bonds. not only due to a more intense shade of the figure of the
shareholder, operated by the insertion of share classes particularly flexible and adaptable, but also thanks to
the introduction of special funds and, above all, the "chameleon-like" instruments referred to in the sixth co .
art. 2346 cc, ie securities actually endowed with the ability to take on much of its shades of shares as of the
bonds.
In this context of reform measures, the regulation of bonds do not think I deserved - at least until the
worsening of the known financial scandals - a particular attention by the legislator. Already through the
second corrective action operated the company reform, the legislator seems to have partly changed the
content of the initial project, trying, on the one hand, to confirm the possible government intervention in the
economy in the form of government guarantees to issue bonds, on the other, to defend the weak positions of
the non-professional investors through the changes made by the first Legislative Decree no. 310 of 28
December 2004, now partly revised and relocated from the savings contained in d.lgs reform. 262 of 28
December 2005. Despite undergoing substantial alterations, from the point of view of the possible overlap of
the holding company plans adopted by other financial instruments of the spa, the bonds do not come
however to the "excesses" dictated by the sixth co. art. 2346 cc, while maintaining substantially the nature of
debt securities, albeit postergabili or redeemable.
Among the actions undertaken at the seventh section of the fifth title, however it occupies a prominent place
in accordance with the new co. art. 2412 cc, which normally provides for the possible exceedance of the
emission limit charged to the spa not acceding to the regulated market to the cost of the guarantee assumed
by the financial intermediary subject to prudential supervision first subscriber - or even later? - in favor of
the next non-professional investors borrowers. The forecast is clearly to encourage an expansion of the
Italian high-yield bond market cd, seeking a difficult balance between the requirements for diversification of

credit sources of non-listed companies of limited size and the need for better protection of investors that
direct part of their assets to sub-entry of such financial instruments. While shared aim, the practical side - in
particular interest in view of the financial intermediary - the norm, however, reveals the considerable
roughness; It seems all too obvious, in fact, as the endorsement imposed on this subject constitutes an
insurmountable obstacle to the fulfillment of any IPO enlarged to the public of non-professional investors,
thereby heavily delimiting the area of financing small to medium businesses ,
The application problems related to the intermediary's warranty does not appear to have been warned by the
legislature, which, in contrast, wanted to repeat the same mechanism of protection even in art. 11, according
to co., Lett. c) of Legislative Decree no. 262 of 2005: despite having the advantage of having repealed the
last co. art. 2412 cc, the savings reform has thus entered into the TUF a new provision, Article. 100-te,
which is aligned in large part to the second co. art. 2412 cc The amendment made specularly provides that,
without prejudice to the codicistic limit of capital and reserves for unlisted emissions, the guarantee of the
first subscriber in favor of borrowers next savers extends to all securities offered to the public only by
professional investors for one year from the placement, even if carried out abroad n. The dictated closing
repeats the questions already raised at with regard to Article doctrine. 2412 cc; doubts intended to scupper
the hypothesis of an immediate redeployment between
the public of the securities having a denomination of less than € 50,000, according to the established patterns
of private placements, normally made by a consortium of banks led by one or more lead managers.
It should also be highlighted by the reading of Article. 100-bis of the Consolidated Finance Act, as the norm,
while referring to the entire category of financial instruments, imposes a guarantee limited to "... the
solvency of the issuer ...", thereby including the debt and excluding evidently equity. The solution is
consistent with the traditional division between risk capital and credit, only by giving owners the latter a
more intensive protection as external social enterprise subjects; the status of partner, or positions anyway
participatory provided by the reform, even if they are based on a minimal stake, in fact justify the idea that
the rights related to the same give the possibility (even theoretical) to address the business dynamics, or at
least , provide adequate supervisory tools.
Possible reasons for interest in the study of the clauses covenants
The obvious benefit related to a more closely with corporate events has long led foreign financial practice, in
particular the US high yield bond market, to develop so-called bond covenants, or insert clauses in the loan
agreements bond with the function to impose conditions to the loan in favor of the holders of the debt
securities. This solution allows the mass of creditors of the company to more thoroughly monitor the trend of
the undertaking funded, as well as to target under certain aspects of the same, obtaining the guarantee of
early repayment or a higher rate of interest due to the occurrence of the condition. In economic terms,

For a comparison of the market for speculative debt of America and Europe, see. C. and A. Cesari Rusconi,
International context, II in the corporate bond market in Italy, edited by C, M, Pinardi, cit., P. 32 ss. and 45 s.
The figure was confirmed by M. Bradley and MR Roberts, bond covenants priced Are ?, Fuqua School of
Business, Duke University, November 2004, available at websitewww.ideas.repec.org, P. 4. AA. We put in
evidence as "We find a negative relation between the inclusion of a bond covenants and the promised yield
on corporate debt."
"In the US, lenders who wish to protect themselves from opportunistic behavior of shareholders must rely on
the contractual instrument"; Enriques so L. and J. Macey, venture capital and creditor protection Collection:
a radical critique of the European rules on share capital, in "Riv. Soc. ", 2002, I, p. 86. Notes however R.
Rordorf, importance and limits of information in the financial markets, "Jur. comm. ", 2003, I, p. 774, as
"self-regulation is able to give real benefits only when it succeeds in harmoniously coordinating with the
primary sources general law [...] carving out their own space in the interstices that that sort should be the
guarantee." On this point, see. Also F. Fimmanò, cit., p. 98 ff .; MC Brescia Morra, financing of limited
liability companies and debt securities,www.dircomm.it2003, XI, 2.
In addition to satisfying this primary financial reason, the adoption of clauses within the Italian system could
find specific reasons for interest in the peculiarities of our economy. Their use might indeed be strongly
encouraged by the underwriters intermediaries are obliged to guarantee the solvency for the next assigns
savers: it is clear that the introduction of such clauses would be to reduce the financial risk suffered by the
borrower 'guarantor', you would see thus better secured against the issuer for at least the first year of life of
the title - or for the warranty period imposed by article 100-bis of the Consolidated Finance Act - during
which it is expected that the securities remain in the portfolio from ' intermediary,
In the aftermath of the financial cracks occurred, the introduction of covenants clauses in contracts of
emission of bonds could also be a response to investors 'private' the supplementary to the strong public
demand for greater protection of risparmio24, unfortunately evaded request by the legislature only after a
long legislative stasis.
From a strictly legal point of view, the settled practice foreign contracts relating to covenants could stir some
attention, representing a valid reference point in the study of possible participatory content of the bonds, the
instruments referred to in the sixth co. art. 2346 cc and those issued on the occasion of the creation of
segregated assets and debt securities Ltd., and securities of Cooperatives: waiting for a consolidation of the
practice com- reholders', point out that in reality the "bondholders ... Also require protection When there are
conflicts between all agency managers and outside investors. " On this point, see. SM Bainbri- dge, Dead
Hand and No Hand Pills: precommitment strategies in corporate law, UCLA School of Law, Law and
Economics Research Paper no. 02-02, available to websitewww.ssrn.com, P. 3:05 ss.
Since the works by Jensen and Meckling (1976), Myers (1977), and Smith and Warner (1979), it has been
possible to distinguish costs of value transfer and costs related to agreement mechanisms for mitigating

conflicts between shareholders and creditors. Regarding the transfer of value, when managers seek to
maximize shareholder value rather than maximize value for the company, there is the possibility of
overinvestment or underinvestment in future growth opportunities. Thus, the loss of value to the company
resulting from this attitude is characterized as an agency cost. Moreover, mechanisms that help reduce
conflict of interests and possible reductions capital cost (debt covenants and short-term debt) also have costs
related to its accession. After studies by Jensen and Meckling (1976) and Myers (1977), Smith and Warner
(1979) realized that the choice of covenants in a contract may indirectly and simultaneously affect an
enterprise’s other activities, such as investment decisions, payout policy and leverage.
As mentioned by Billet et al. (2007), although it is possible to reduce such agency conflicts without changing
the existing level of debt through the use of short-term debt and restrictive covenants, there are some
precautions related to a growth opportunity scenario that a company should take. In a growth opportunity
scenario, the use of covenants in debt agreements may limit the opportunities perceived in the future and the
use of short-term debt can bring the company liquidity risk problems. As these instruments may limit future
investments by firms, the logical solution is to decrease the current level of indebtedness or to use less debt
to raise funds in need of funding (Silva, Saito and Barbi, 2013). Therefore, the expected prediction is that
firms with greater growth opportunities are less leveraged. As debt covenants and short-term debt may limit
future opportunities, some companies might prefer not to raise debt instruments when they face growth
opportunities. That is the reason for predicting that growth opportunities and leverage have a negative
relation. In this situation, both covenants and short-term debt could be analyzed as possible tools to reduce
the negative relationship between growth opportunities and long-term debt.
Studies have shown that reducing debt maturity (i.e. issuing short-term debt) can help treatment of the
agency problem. Myers (1977) found that if the debt matures before the exercise growth option, maximizing
value to the business can be conducted. Then, it is possible to reduce the incentive for achievement of
underinvestment. According to Barclay and Smith (1995), in the event named contracting-cost, investors
tend to refuse investment when there is possibility of transferring wealth to creditors. One way to alleviate
the problem presented in the contracting-cost hypothesis would be reducing the maturity of debt owned and
using short-term debt in subsequent issues.
The hypothesis is far from unreal if we assume that the rate of bond interest can be modulated, being able to
guarantee for the first year of life of the title a particularly big chunk of that justifies the increased risk of the
first subscriber, in addition to covering the public placement of the subsequent costs.
"With a view to strengthening investor protection, the search for more efficient governance structures is not
just about the issuers, but also involves the lenders and brokers who, on behalf of the same issuer, are
concerned with the market finding resources» : F. Velia so, new rules of corporate governance and investor
protection, in this journal, 2004, III, p. 468; On this point, see. Also S. Fortunato, the "failures" in the system
of controls in the financial markets (on the sidelines of the bill on the protection of savings), in "Company",

2004, VIII, p. 932 s; R. Pardolesi, AMP, A. Portolano, milk, tears (crocodile) and blood (of investors), in
"Mere. conc. reg. ", 2004, p. 200 s.
For a glimpse of the possible financing instruments of cooperative societies, their nature, see. P. Marchetti,
direct financing Technical forms of cooperative societies, in "Riv. coop. ", 2004, II, p. 26; R. costs, financial
instruments in new cooperatives: discipline problems, "Bank purse, tit. cred. ", 2005, II, p. 124 ss.
In this direction a significant boost to the material translation of the solutions provided by the legislature
could come from the current strengthening of the presence of foreign banks in the domestic capital market,
as well as the consolidation of synergies between Italians and European operators. The complexity of the
instruments now in the reformed code may in fact be more appreciated by the operators can already boast a
solid experience in the field of financial engineering1. These subjects may be so assigned the task of 'lead' a
market that has never particularly excelled in creating opportunities for a direct link between savings and
finance companies, also due to the limited size of the latter.
Finally, it must consider how, as a result of physiological aggregation operations of the numerous pieces of
the national bank mosaic, the actual decrease in the number of competitors subjects could force institutions
to reconsider, at least in part, the traditional operational strategies: if in fact until today the weight of
financial investments dished out in favor of individual company - itself usually not excessive, given the
limited size of Italian companies - is greatly reduced result from the breakdown of total debt in multiple lines
of credit opened by the various competing institutions, all ' opposite a concentration of the latter in a few
macro subjects could lead to a greater incidence of the possible suffering of the assets of institutions
(especially if concomitant with esposition to the guarantee of art. 100-bis TUF), forcing them to transfer a
greater part of the risk directly on risparmiatori25. In this regard the entry into force of the Basel II
agreements could play a decisive role in rationalizing the volume of direct investments, containing those
directed to the segment of companies with less financial strength and favoring, on the contrary, the pure
brokerage business capital.
The hope that the Italian banking world can "move ... corporate lending approach towards an approach of
corporate finance ...", "it is extremely present in the face of this historic moment, characterized by a
stagnation of national production system: the recovery in investor confidence and a more prompt and
attentive response to the financial needs of businesses, including in the interests of transnational
development of the same, therefore, seem to represent irreplaceable pieces in order to compose a credible
response to the phase slowdown that has unfortunately addressed our economy.
Starting from these premises may therefore be useful groped an analysis of the possible solutions to the
problem of a greater involvement in the management of the debt or, at least, supervision of the firm
(solutions that the new articles of the civil code transpire leave in determined operational flexibility that
themselves seek), comparing with the same practices contrattuamotive industry experience across the border,
1

in order to identify some of the possible scenarios that the framework of targeted funding Italian industry in
the future will come to contemplate.
BOND FEATURES
The term Yield is the percentage of the amount invested, as income result of a financial investment. Fixed-
income securities effective yield is the interest rate that exactly the stock price to the sum of the present
values formed by the cash flows that the title will generate in the future. The yield of a share is instead
calculated as the ratio of the annual dividend of the stock and the stock's market price.
The yield curve, or Term structure of interest rates is a representation of the relationship between the market
remuneration rates and the time remaining to maturity of the debt securities.
The curve is drawn by placing the remaining duration of the title on the horizontal axis and the percentage of
yield in the vertical one. The yield curve has three significant moments: normal, flat and inverted.
Normal Yield Curve:
bonds with shorter maturities have lower yields because the associated risk is lower. If the number of years,
creating more uncertainty and additional risk. The greatest risk of the bonds along is due to a higher
volatility, to a risk of inflation and to a default risk. The bondholders are rewarded for this increased risk in
the form of higher interest rates. The excess return on long-term bonds is called risk premium.
flat yield curve
if there's a flat yield curve, you will receive more or less the same rate of interest is you buy bonds of short,
medium or long term. In this case, usually we recommend investors to remain in the intermediate reference

range for the market uncertainty that is created on the long-term bonds. It is not unusual to be created in this
case a
normal yield curve for the first ten years and then a flatter curve over the next 20 years. In this case, usually
it makes sense to buy the bonds that expire before the curve is flat, because after that point will not receive a
reward for purchasing riskier stocks.
The inverted yield curve
bonds with a short maturity have a higher yield of long-term bonds. This curve is infrequent and sometimes
indicates that a significant economic change is occurring as, for example, a recession. It's harder to make a
buying decision under these conditions. If you buy bonds in the long run it will not be rewarded risk. You
can get the highest return by taking what seems to be the safest route, buying short-term bonds. However,
this strategy could have a positive result does not because the inverted yield curve usually does not last very
long. The yield of drink-term may decline rapidly. So you may miss the opportunity to capture the higher
returns that you would. The information content of the yield curve reflects the process of asset pricing in
financial markets. When the investor makes the purchase or sale of bonds, must predict future inflation and
real interest rates, understand the expectations and risk assessment of customers and calculate the price of a
bond by discounting the future cash flows expected. Each title is characterized by maturity (or term), that is,
the time period during which the title promises to make payments to the holder. Securities with different
maturity are characterized by certain prices and different expiration returns. Looking at a given instant the
bond between the end and return is possible to plot the yield curve. The slope of the curve is influenced by

the expectations on ' development of future short-term interest rates. If the curve is downward sloping
markets await a
reduction in short rates. Expectations of a rise in interest rates are associated with an increasing trend of the
curve. From the term structure it is possible to derive the forward rate curve.
There term structure future or parts of the same function as the underlying for further titles, called derivative
securities. Examples of such securities are swaptions, which are options on future realization of some rates
linked to the term structure future.
STRUCTURE AND EXPIRATION OF INTEREST RATES
The maturity of a bond is represented by residual life, ie the period of time remaining before the repayment
of capital by the issuer. The structure of interest rates according to maturity, then, is not that a function that
links the interest rate obtained from a financial instrument at maturity of the instrument. For this purpose
they are generally used titles of public debt, as being free from risk of default can basically highlight the
relationship between yields on different maturities. It is also common to use interbank interest rates to
compose curves of short-term returns, generally up to 12 months. In any case, the differences between the
rates at different maturities are usually represented diagrammatically, as is represented in the graph below.
As will be seen more clearly below, the yield curve generally has a positive slope (normal) That indicates a

gradual increase in interest rates with the extension of the deadline, up to a progressive flattening for very
long durations. If, however, the positive slope of the curve is too high, this is the rate hike expectations
(expectation of an INCREASE in rates ). Instead negative inclination reflects the unusual situation of higher
short-term rates than long rates; This may portend a future decline in the level of interest rates (expectation
of a reduction in rates).
The analysis of the behavior of the operators are able to clearly explain the impact of expectations on the
term structure of interest rates. If it is assumed for example that it is expected an increase in interest rates
(see again the upper graph), the current holders of financial assets will attempt to avoid being engaged in
securities with relatively low yields; prefer to invest only for very short time horizon, waiting for the
expiration can once again lend to higher interest rates. For these reasons there will be a trend towards
increased supply of short and a corresponding reduction in the supply of long-term funds of funds. At the
same way those who need loans will want to commit ' current lower interest rate for the longest term
possible in order to avoid the higher cost for the future interests. Thus the demand for long-term funds will
increase, in the face of reductions in the demand for short-term funding. These changes in both the demand
and supply of funds for various maturities in a situation where there are expectations of growth rate, showed
an excess of supply over demand in the short term in the face of excess demand on the offer in the long
period. The obvious effect of this situation is the decrease in short-term interest rates and the corresponding
increase in long rates. The whole process will return to balance when the gap between d 'rates interest in the
short and long will be sufficiently large to offset the market's expectations for a future increase in the cost of
money. Evidently, when the expectations are for a future decrease in interest rates, the reaction of the
operators will be exactly opposite to the situation described previously. The consequences will be so the
increase in short-term interest rates and the corresponding decline in long rates. These changes will be
reflected generally in a yield curve flatter than normal; the unusual descending curve (inverted yield curve)
may be observed only if the market expectation is for a future cost cutting of the very substantial money and

this expectation proves to be very well founded. In this case the influence and risk appetite Evidently, when
the expectations are for a future decrease in interest rates, the reaction of the operators will be exactly
opposite to the situation described previously. The consequences will be so the increase in short-term
interest rates and the corresponding decline in long rates. These changes will be reflected generally in a yield
curve flatter than normal; the unusual descending curve (inverted yield curve) may be observed only if the
market expectation is for a future cost cutting of the very substantial money and this expectation proves to be
very well founded. In this case the influence and risk appetite Evidently, when the expectations are for a
future decrease in interest rates, the reaction of the operators will be exactly opposite to the situation
described previously. The consequences will be so the increase in short-term interest rates and the
corresponding decline in long rates. These changes will be reflected generally in a yield curve flatter than
normal; the unusual descending curve (inverted yield curve) may be observed only if the market expectation
is for a future cost cutting of the very substantial money and this expectation proves to be very well founded.
In this case the influence and risk appetite The consequences will be so the increase in short-term interest
rates and the corresponding decline in long rates. These changes will be reflected generally in a yield curve
flatter than normal; the unusual descending curve (inverted yield curve) may be observed only if the market
expectation is for a future cost cutting of the very substantial money and this expectation proves to be very
well founded. In this case the influence and risk appetite The consequences will be so the increase in short-
term interest rates and the corresponding decline in long rates. These changes will be reflected generally in a
yield curve flatter than normal; the unusual descending curve (inverted yield curve) may be observed only if
the market expectation is for a future cost cutting of the very substantial money and this expectation proves
to be very well founded. In this case the influence and risk appetite market expectation is for a very
significant future cost of money and cutting this expectation proves to be very well founded. In this case the
influence and risk appetite market expectation is for a very significant future cost of money and cutting this
expectation proves to be very well founded. In this case the influence and risk appetite

12
liquidity is not sufficient to offset this ingrained belief of a future sharp decline in interest rates.
TWO CURVES PERFORMANCE OF CREDIT RISK
Daily are calculated and published two maturing facilities. That pricipale is estimated on the prices
of government bonds with credit rating (Fitch) AAA, which signifies the structure for risk-free
maturing of the euro. A second is calculated from prices of all euro area government bonds. In both
cases are considered only euro-denominated securities, stakes deterministic (a coupon securities
nothing and fixed coupon bonds), life at maturity from 3 months to 30 years, issued nominal value
of at least € 5 billion and actually traded that day , with bid-ask spread of no more than 3 basis
points. The prices considered are those of the end of the day (closed).
The value of bonds, namely their price, can be obtained as the current value of their flows by
applying the principles of the RIC discounting, at an interest rate that we consider the constant (on a
period basis) for each maturity.
The types of covenants
As mentioned, the main reason for the development of the covenants bonds phenomenon in foreign
financial practice, primarily in the US market for high yield, it resides, in a nutshell, in the need to
contain the natural elapsing conflict between shareholders and bondholders, thereby reducing the
cost of financing. "it is clear as the venture capital (or often the only villages linked by a control
agreement), particularly in societies with little financial credit, it is naturally pushed to undertake
financial transactions that produce the higher profit achieved in order of payment of dividends,
almost always in the short course of a few financial years. These policies clearly clash with the
interests of creditors,aimed at the preservation of a constant profitability, and against a division of
assets to address the entire duration of the loan. "
A similar mechanism of protection is also known for bank loans: indeed it can be said that in reality
the Italian contractual practice of the conditions to the industrial mortgage operations will be

13
developed first in this field, in view of the increased specialization of credit institutions; However,
even the practice of loan covenants cd appears to now especially widespread in the national credit
reality: only a part of the few loans implemented by banking consortia can indeed detect a certain
use of such clausesSun''. A probable reason you possibly can find not only in the modeste size of
most Italian spa, in the absence of a real interest on the part of lenders, given the tight weave that
often unites the leading companies in the Italian banking sector and making it unnecessary to
impose such control mechanisms. The participation of many institutions to the social structure, or at
least the strong commercial relationship between banks normally the funded companies, are in fact
the instruments that was already more than enough for the exercise of a power monitoring, if not
sometimes indirect management of the enterprise, with the consequent risk of having generated the
distorting effects related to a constraint of this nature.
Conversely, not being able to realize such an intense relationship between the issuer and the mass of
the holders of the debt securities, are easy to understand the benefits of the use of such terms within
the contracts for bond financing: in this so the bondholders are strengthened to obtain a guarantee
against social enterprise, being able, on the one hand, to target certain operational choices, on the
other, coming to enjoy a right to control strengthened with respect to what expected from the
common discipline. Likewise the company is facilitated in search of capital, being able to pay a
lower interest in the face of reduced economic risk to which they are exposed and to be creditors of
the same. In order to satisfy this double requirement,
 the indebtedness limitation clauses;
 the limitation clauses to payments to certain entities;
 the limitation clauses to lease back transactions;
 the limitation clauses in the sale of corporate assets;
 the limitation to the merger clauses;
 the limitation on the change in the shareholding control clauses;
 the limitation clauses in transactions with affiliates or parent companies;
 clauses containing an obligation to specific information in favor of bondholders
Apart from the simple classification between positive and negative covenants - or respectively
based on obligations to do and not do - the enumeration can be split into two distinct subsets: the
first, comprising the first four categories, it is characterized by having a common denominator l

14
'imposition of operational limits aimed at direct protection of corporate assets "; the second, formed
by the remaining types, is instead characterized by putting in place a guarantee only mediated,
realized through the imposition of operating limitations that implement only indirectly a defense of
company '' active.
CAPITOLO 2 CONTINUAZIONE
the indebtedness limitation clauses
Among the figures outlined above that of more immediate understanding resides certainly in the
covenants relating to the imposition of a limitation of the issuer's debt. "In our sorting such creditors
guarantee mechanism is to operate only ex lege for spa unlisted not with popular tools among the
public with the fixation of emission limit calculated as twice the reserves and the existing capital
pursuant to art. 2412 cc the adoption of such a clause seems to configurable towards acceding spa to
the public capital markets wishing to put a conventional debt brake - as well as against other
companies - if they want to further reduce the limit already fixed by the legislature. Nothing then
exclude that this measure may also be accepted in issuing contracts the instruments referred to in
Articles. 2346, sixth co., 2483 to 2526 cc
In foreign financial practice the weighting between the active and the passive to the base of the
present covenants normally takes into consideration the relationship between Ebitda or EBTDA
"and the amount of the overall exposure of the individual exercise, relating respectively to the total
debt or interest only. Unlike the mechanism provided for by national law, it then configures a
substantially dynamic evaluation of the economic undertaking funded, mainly anchored to chaste
flow values that the latter is able to produce '' '. a further possible variant the issuer's indebtedness
direct calculation is given by the lowering of opinion expressed by the rating agencies. This practice
has to bind to an immediate perception parameter and knowable by the mass of the bondholders,
however, not free from the danger of errors, being tied to a questionable estimate prepared by a
private entity: in this sense are decidedly important for a correct application of the content of the
rules contained in the new art clause. 69- decies of Consob Resolution 11971 of May 14, 1999, the
Issuer Regulation, to ensure a fair presentation of the creditworthiness assessment enjoyed by the

15
company, as well as communication to the public of possible interests that may affect the agency's
judgment.
A partial correction of the calculation of the borrowing threshold is not uncommon to find contracts
in the issuance of high yield bonds a series of corrective exceptions, aimed at making less intense
the risk of a default of the bond: in this direction can, for example, specific be made for exceptions
aimed at the realization of predetermined operations in general and in their maximum values;
likewise they can be introduced more borrowing margins, solely in order to fulfill the needs of
unforeseen or temporary order (again indicating its limits), or be permitted for new loans, provided
subordinated compared to bonds. This last hypothesis is linked to the practice of grade corporate
debt, Also popular among the public, implemented by the national legislature in the new prime co.
art. 2411 cc The rule comes in this way to provide for a considerable freedom of society in the
construction of creditoria48 pyramid. In the presence of a covenant that he seeks a general limit on
leverage, it is clear that the Italian company could not, however, guarantee access to the funding
market by focusing solely on that legal hold, postponing, therefore, the rights of bondholders new
respect credit issued containing the limitation clause indebtedness, olthree, of course, by paying
them a higher interest rate. The hypothesis is in fact unreal since the postponement, as well as
regarding the right of return of capital, should also affect the payment of interest, at least for the
duration of higher-level credit. To avoid the risk of being subject to the approval of the bondholders
art. 2415 cc, n. 2, which consent to the partial renegotiation of covenants, the company should
therefore emit subordinated zero coupon bonds, intended not to pay coupons at least for the
remaining duration of the title, in order to ensure that the new issue does not go to affect the reasons
of the privileged lenders ;
the limitation clauses to payments to certain entities
Next to this first group of terms fits a set of terms and conditions, in part similar, involving the
imposition of limits to payments "CARRIED in favor of predetermined subjects, such as certain
classes of creditors or the set of shareholders. In comparisons of members, in particular, the
covenants may dictate a reduction or suspension of pay dividends ": the formation of this block is
normally intertwined with the creation of an unavailable reserve intended to satisfy the right of
bondholders, which converge toward the active non-distributed.
A first possible legislative endorsement of the content of financial clause seems in our legal system,
as well as a limit to the distribution of dividends is not supported by a budget surplus, even not
grant any loans to members at the end of the subscription of shares "and in restrictions on the

16
repayment of loans granted to the company by unitholders pursuant to art. 2467 cc: application
problems related to the vagueness of the provisions contained in the second co. of the latter rule - if
you indicate the criteria that distinguish the mere financing from conferring artfully concealed -
seem to constitute a valid reason for interest to support the adoption of the covenant even within the
capital market of the srl, there through being able to determine in advance what operations can be
freely carried out in favor of the members.
The transposition of this financial practice even within the spa - easily extensible tools provided for
cooperatives - must, however, obtain prior approval of the shareholders' resolution of necessity "by
the special fora, according to art. 2376 cc, the order to make legitimate a general compression of the
economic rights of the shareholders, or at least those involved in the companies which provide
different types of share classes. The permission must also be granted by the holders of financial
instruments as per art. 2346 cc, the sixth co. , workers or beneficiaries of the incentives provided for
by art. 2349 Civil Code, if such data is affected by the structure of the debt, "such as creditors of the
company may even participate in the trend business.
The problem of the validity of any decisions taken by the board and not ratified by the assembly
however their validity against third parties, totally external to the company, which have not been
previously approved the introduction of a limitation within their financial rights, may perhaps find a
solution in the application of parallel rules on issuing the instruments used to finance a specific
business, as provided for by lett. and the first co. art. 2447-ter cc fact not being able to get around
only by analogy the legal origin of the financial liability limitations dictated by the second co. art.
2740 cc sense and legal knowable inherent in the inscription of the issue resolution with the
commercial register. This trick can still come across, as well as the necessary existence of a deal
distinguishable from normal business activities, the quantitative limit dictated by letter. in the
second co. art. 2447-bis cc: the norm provides that the "specialization" of the assets is achievable by
only a total for a fraction equal to one tenth of the same.
An entirely similar to that described control mechanism is also contemplated by the covenants
variant which imposes limitations on transactions relating to the purchase of own shares or debt
securities subordinated. In the first case the adoption of the clause would increase the already strong
defense prepared by the legislature in the field, as confirmed by art. 2357 cc, being able to find a
good job in further reduce, if not clear, the tenth of the capital remains tenable directly by the issuer
(note however that the necessary creation of a distributable reserve pursuant to art. 2357-ter cc,
third. , for the corresponding stock value constitutes a guarantee, albeit generic, adequate protection
of the reasons of social creditors, such as to reduce partially the insertion interest of such a

17
condition in the national commercial practice "). a further variant can be given by quote ban to a
real reduction in capital: his receptment would in this way to strengthen the combined data by
Articles. 2413 and 2446 cc, being able to put a contractually operation such precautionary limit ".
In the second of those hypotheses, or the prohibition on early repayment of subordinated debt 6S
feasible through direct repurchase of the same, the interest of the bondholders would be to reside in
maintaining It integrates the pyramid structure creditor: in this case the registration with the
Commercial Register of the resolution to issue the bonds covered by the clause would be a valid
form of advertising, such as to make enforceable the content of the covenants to subsequent
subordinated creditors.
In order to make more flexible the management of the enterprise, this contractual condition presents
in its international application of conventional exclusions. In this sense, they frequently found
exceptions intended to buy back the shares or stock options issued to employees. Similarly
concessions are often provided to the repurchase of subordinated debt, if the same is implemented
with emissions or other kind of funding belonging to a level that is still lower than the credit
supported by clause. The reason for this exemption is easily understood: thus it allows the company
to renegotiate some of the debt on better terms, with indirect benefit of the bondholders also
subordinated.
the limitation clauses to lease back transactions
A third kind of covenants accrued by foreign financial practice, aimed at immediate protection of
corporate assets, is represented by the imposition of the ban for the issuer lease back operations, or
at least in the entity predetermination of such operations. The adoption of such a restriction is
justified in considering that this type of financial maneuvers "... generates an increase in leverage
which is accompanied by an increase in business risk ..." It is obvious fact as the sale of corporate
assets and their "buy-back" under a leasing contract, although they may respond to a legitimate
strategy of Directors addressed to the temporary monetization of part of the company's assets, still
constitute potentially dangerous operations for the company's creditors interests. Alienation, albeit
temporary, the surroundings of the heritage and the creation of a more passive, although they can be
implemented lawfully when clearly not intended to defraud the expectations of creditors by entering
into an agreement of forfeiture - as is now widely recognized by the established case law 68 of the
Supreme Court - are in fact an objective risk for bondholders, only partly solved by the
consideration that the operations involving normally read back the goods hardly transferable to their
intrinsic nature or the importance they hold for the company management.

18
the limitation clauses to the sale of assets
The goal of safeguarding the integrity of corporate assets is the common thread that binds also the
fourth and last of covenants purely financial model, namely the condition concerning the imposition
of limits on the sale of assets 69. Compared to the previous model such clause has a scope wider
application, being able to engage over certain bodily goods also intellectual property - especially if
it occurs the possibility that the debt is related to the development of a specific business project art.
2411 cc, according to co. - going so far as to embrace entire business units.
union between the covenant clause and regulations dedicated to assets intended for a specific
business deal seems possible to find in particular the combination of b) and c) of Art. 2447-ter cc,
which refer to the goods and the legal relationships that can make up the portion of the assets and
the presence of "... any guarantees given to third parties. ' The combination could then be read, in its
application scope, which solid legal basis by which to justify the issuance of financial instruments
of participation that they can take this type of contractual agreement.
However, as already pointed out, the former art tools. 2447-ter cc will necessarily have to be
connected - even if only a small part - the trend of the deal: no regulatory foothold on the contrary
seems to be offered by the section of the code dedicated to the bonds, making more remote
appearance configure the insertion of a similar covenant in a debt "pure", ie corporate social untied
on the performance, and this will be of considerable interest as a kit with the loan agreement
implemented through the issuance of bonds related art. 2411 cc, according to co.
The idea of the bond of heritage conservation could be, at least for the real property, even if the
mortgage coverage already provided for in favor of bondholders from the original version of the
code, now revived by art. 2412 cc reformed as one of the possible expedients adoptable in order to
allow the spa not acceding to the venture capital market the issue of bonds beyond the limit of twice
the capital and reserves, as imposed by the first co. art. 2412 cc The adoption of such clauses may
still find the most effective foundation for an expansive reading in the fifth Point art. 2414 cc,
where you indicate any guarantees that assist creditors as a possible part of the literal content of the
title. THE' broad formula used by the legislator seems so can encompass, in addition to traditional
mortgage registered on social property, more complex solutions such as the non-transferability of
intangible assets such as, for example, patents or trademarks; nor seems to be excluded a priori,
through an expansive reading of the provision, the reception of foreign widespread practice that
restricts the transfer of assets through the imposition of a minimum price for them, such as to
guarantee the creditors from the danger that the same can be sold below cost.

19
The adoption of the covenants could also arouse a strong interest on the part of the first investors in
the debt securities of the srl or ultra limitem issued bonds from the spa, as required to ensure the
next ex-savers borrowers lege: the maintenance of tangible assets could indeed considerably
decrease the risk, from these suffered, having to fill any suffering produced from default issuer.
the limitation on merger terms
Besides the clauses from a purely financial content, the foreign company practice has developed a
further series of covenants, which are characterized by a defense type of mediated funds indirectly
obtained through the imposition of conditions relating to the sphere of "legal" society, indicated by
the numbers 5 to 8 in the previous proposal list. The first category of this second set is characterized
by pursuing this objective by prescribing the prohibition of a merger with other companies. It seems
clear that the main objective pursued in avoiding that the company can thus aggravate their debt
exposure, by binding to subjects with a worse financial position or having a lower capacity to
generate cash flows:
The need for such protection of the debt already appears pursued by our legal system through the
general mechanism of the explicit consent or tacit consent of creditors, expressed by period of sixty
days from the registration of the merger resolution and the storage of documents related to it art.
2503 cc, as called for by the bondholders also art. 2503-bis cc - achievable through a vote of their
former assembly art. 2415 cc - without prejudice to the possibility of an early payment of debts ", of
any provision of monetary guarantees offered by the company involved or the alternative
reassurance of accounting firms, that are making the pronunciation obligation or tacit acceptance n .
the latter hypothetical external intervention could give a sense to the use of covenants, allowing to
go beyond the provision of the law if the debtor does not deem it sufficient commitment, including
economic,
The adoption of the clause could find a valid reason to use even towards participatory cd titles class
within this broad category must be distinguished the direct application of Article. 2376 cc (standard
which provides for the approval of amending resolutions of the administrative rights of security
holders by special assemblies) analog implementation of the discipline of the bonds, referred to
expressly in the third co. art. 2411 cc. In both cases, the creditors may decide the circumvention of
such a risk by placing a ban ab origin, all the more desirable solution in the face of a participatory
performance of debt '

20
the limitation of the control change clauses compages
Quite similar appears the protection mechanism provided by clause characterized impose the default
credit issuer where it is modified control. Like the covenant linked to the prohibition of the merger
between the company, in this case the concern of bondholders lies in the uncertainty inherent in a
changing business policies pursued by the new majority of society. However, unlike the previous
case, the proof The fact that the issuer default appears in this most difficult case, because not always
the change of the top management may be revealed by the shareholders involved: it is predictable
that in the face of the risk of ' fulfillment of the condition subsequent to the loan agreement - or at
least in front of '
In order to contain this danger our system has an obligation on the spa is not listed on regulated
markets - but same holds true for the srl "- to communicate through registration with the
commercial register, the list of members and the different agents who are holders or beneficiaries of
constraints on fractions of the share capital (pursuant to art. 2435 cc, according to co., and 2478-bú
cc, according to co.), head of the trust members of acceding company at risk market or having
shares traded in regulated markets is expected then a duty to notify the existence and publication of
shareholder agreements pursuant to art. 234-ter cc and 1 122 CFA; also be borne by the listed
companies there is an obligation of communication of significant investments art. 120 TEU L 'area
of application of covenants apIt therefore seems connected to the possible crash of the "flaws" of
the information system set up by the legislature, for example by imposing the obligation to notify
the public of the existence of existing shareholders' agreements within Ltd issuers of debt securities.
the limitation clauses in transactions with affiliates or parent
In many respects similar to the second financial covenant model (the one concerning the payment
limits for certain subjects) appears on the third type of clause by the legal content, characterized by
the imposition of restrictions on entering into settlement agreements on behalf of its member issuer.
Also in this case the risk that it intends to overcome lies in the possibility that the operations -
conducted, however, within the group - can damage the economic profile of the debtor, favoring
associates. "Given the intervention carried out on the coordination and direction the company by the
2003 reform and subsequent appendix added in terms of transactions with related parties pursuant to
art. 2391-bis cc ", l ' adoption of the clause does not appear to play a major role in our system.
However, it seems reasonable to assume that the existence of the described disciplines could not be
considered a sufficient guarantee from investors: in particular, the practical interpretation of the
precepts contained in articles 2497 and following cc by the courts, as well as still require

21
considerable time, would see bondholders exposed to heavy economic variables related to the
judgment of the magistrate '' '. The adoption of similar clauses within the contracts of issue of the
instruments made available to the sp, a., Ltd. and also to the cooperative society.
the clauses that contain a specific requirement to the information which the bondholders
The last major legal covenants model devised by the Anglo-Saxon practice contracts gives
bondholders the right to obtain specific reports on social enterprise and the financial position of the
same in relation to the title they hold. Again the adoption of the clause seems destined to find its
source of interest by operators in the face of the massive flow of information the TUF and Consob
resolution No. 11971 of May 14, 1999, the so-called Reg. Issuers, devise in favor of holders of
securities.
The companies that have decided to list their securities (and the persons that control them) are in
fact subjected to severe discipline monitoring, based on the concept of 'inside information' (ie a
given that, pursuant to Art. 181 TUF, if made public would reasonably used by the investor to
implement its investment strategy), compulsorily directed to investors under the screen by Consob
pursuant to art. 114 TEU, made legislation largely applicable from art. 116 of the TUF SpA also to
unlisted bonds, or spread. In general, listed issuers or about to access regulated markets which meet
the specifications set out in Directive 2001/34 /EC, or other regulated market will have to give
proper disclosure of information on relevant facts set out by art. 66 of Reg. Issuers; also it governs
the voluntary dissemination of forecasts, quantitative and accounting data targets for the period.
"The core of knowledge obviously already constitutes in itself a good information base on which
bondholders can rely without necessity of insights imposed by contract.
With regard to extraordinary transactions, however, timely information obligations fall solely on
issuers with listed shares, while, in contrast, companies that have only bonds as instruments traded
on regulated markets are subject to a discipline less intense art. 75 Reg. Issuers. The law, in its first
co., Confines itself to requiring publication of the documentation prepared by the boards on the
occasion of merger or spin-off - in the form set to the same Regulation - and to comply with the
disclosure requirements for new issues or for incorporation editing operations that may affect the
rights of bondbolders. The second also provides an additional advertising regime to ' registration in
the register of the constituent companies of the resolution a special fund pursuant to art. 2447 bis cc,

22
by placing the deposit of documents at the registered office, as well as at the management company
of the regulated market. Although remote, the possibility of a spa which has only bonds traded on
regulated markets proves anything but unreal against the legislative requirements would thus be
exposed to being excluded from the information required significant transactions of acquisition or
disposal and especially those performed with related parties ", a process involving all significant
risks for the company's creditors." by placing the deposit of documents at the registered office, as
well as at the management company of the regulated market. Although remote, the possibility of a
spa which has only bonds traded on regulated markets proves anything but unreal against the
legislative requirements would thus be exposed to being excluded from the information required
significant transactions of acquisition or disposal and especially those performed with related
parties ", a process involving all significant risks for the company's creditors." by placing the
deposit of documents at the registered office, as well as at the management company of the
regulated market. Although remote, the possibility of a spa which has only bonds traded on
regulated markets proves anything but unreal against the legislative requirements would thus be
exposed to being excluded from the information required significant transactions of acquisition or
disposal and especially those performed with related parties ", a process involving all significant
risks for the company's creditors."
Even the mandatory periodic information field undergoes a reorganization in the event that the
issuer has shares listed on stock exchanges or other regulated markets ": in particular it is not
expected that the company is required to prepare the semi-annual and quarterly reports . In all these
cases the adoption of a supplementary covenant through which impose a stronger obligation for the
company, seems to be an effective solution to the lack of an adequate legislative provision, bridging
the absence of a stream of data which is of decisive importance not only for members of the issuer,
but also for individual creditors. "
Even more so the inclusion of an obligation to which information provided by the credit contract
(or, at least, as we shall see, a tightening of debt obligations) seems to be the only valid information
gimmick erigibile in defense of creditors now, if the issuer proves only have common bonds
between the public in a significant way: in this case, the information channel narrows further,
ensuring only a reduced disclosure of inside information in addition to the regular information
guaranteed by the budget under Articles. 109 and 110 of Reg. Issuers. Also it must not
underestimate the real possibility that the information covenants mechanism can find a valid
application such specific content of the contract of issue of the bonds provided by art. 2346 cc, sixth
co.

23
Finally, leaving the scope of the spa, it is expected that the adoption of such a covenant will find a
strong reason to apply also in the srl, especially if these will issue debt securities en masse, not
being provided to them any obligations specific information, even periodic.
ITALIAN BOND MARKET
From analisys conducted in the previous sections showed that the Impact investing market in
the Italian context is struggling to develop. In this part of the work is carried out a reflection on
the possible causes of this relative backwardness.
There Therefore reflection starts from the following questions: "Why in Italy has not had a
development on a par with other countries? What is missing in Italy? ".
In order to provide a response it is necessary to think of some focal points that allow or not the
development of a given market, and in particular are identified as follows:
 the question;
 the offer;
 the presence and the role of intermediaries;
 the regulatory environment.
The question
Italy is characterized by being one of the countries in which the social sector has high impact
on GDP about 15% of 46, among the highest in Europe, which means that in Italy it tends to
have a heated attention to third sector and social needs. In fact, Italy has a massive presence of
non-profit organizations, social cooperatives and social enterprises operating in the
community, and was the first country in Europe to standardize the third sector with the
enactment in 1991 of the law on cooperatives 381 social and in 2006 with the Decree. n. 155
governing social enterprises.
In evaluating the potential demand of the market in Italy, another aspect of the sustainability of
the state of the expenditure related to the satisfaction of the needs arising from the social
sector, mainly due to the situation of public finances, but also to compliance with the standards
imposed at Community level. Considering these findings we can assume that the demand for

24
capital to be allocated to the social sector in Italy is widely present. In addition, the aging of
the Italian population will result in an increase of some of those who need assistance and as a
result you can also suggest an increase in the gap between public spending to social and
necessary funding; behaving, ultimately, the growth of the Impact Investing sector in Italy.
However, this is possible if you have the ability of the regulatory environment, which will be
discussed shortly, to evolve towards a definition of social enterprise and a system of rules
capable of innovating nature of the enterprise social same, with particular reference to the
constraints of achieving the social objectives of the profit distribution, transfer of assets and
forms of governance.
The offer and intermediaries
Analyzing simultaneously second and third points, supply and mediation, in our country, what
you notice is a concentration of capital in banks and traditional financial partners; mainly due
to the culture of bench- centric matrix spread over the years. In addition, the Italian banking
system is characterized by its structure, in particular, it being so widespread distributed on the
whole national territory, through banking and BCC foundations, is able to meet the needs and
to local needs.
However, in our country there is a difficulty in the implementation of capital necessary for the
performance of activities relating to the third sector (National Advisory Board Report Italy,
2014). In fact, in Italy the organizations operating in the social fund themselves mainly through
donations and other forms of philanthropic funding, and are limited cases where the
procurement of financial resources these individuals are turning to the traditional banking
system or directly to the market. The main reasons (Martin, 2014) that are pushing this are
identifiable on the one hand differences in interest and financial cultures between the social
organizations and banks, it is not uncommon, in fact, that the banking system is unable to
provide financial solutions adapted to the social aim. The other in the limitations for the
collection of capital by non-profit entities, imposed by the legislation, both in raising equity
with the constraints imposed by the distribution of dividends, both from the side of the bond
debt with the bond to reserve the subscription of the bonds to institutional investors and the
setting of a maximum threshold of remuneration that they can derive it. Staying on the supply
side other difference found between Italy and the countries in which the industry Impact
Investing has become more developed reference to the birth and development of innovative
financial instruments and investment funds dedicated to the social sector. In Italy, both in

25
raising equity with the constraints imposed by the distribution of dividends, both from the side
of the bond debt with the bond to reserve the subscription of the bonds to institutional investors
and the setting of a maximum compensation limit that they can get it. Staying on the supply
side other difference found between Italy and the countries in which the industry Impact
Investing has become more developed reference to the birth and development of innovative
financial instruments and investment funds dedicated to the social sector. In Italy, both in
raising equity with the constraints imposed by the distribution of dividends, both from the side
of the bond debt with the bond to reserve the subscription of the bonds to institutional investors
and the setting of a maximum compensation limit that they can get it. Staying on the supply
side other difference found between Italy and the countries in which the industry Impact
Investing has become more developed reference to the birth and development of innovative
financial instruments and investment funds dedicated to the social sector. In Italy, both from
the side of the bond debt with the bond to reserve the subscription of the bonds to institutional
investors and the setting of a maximum compensation limit that they can get it. Staying on the
supply side other difference found between Italy and the countries in which the industry Impact
Investing has become more developed reference to the birth and development of innovative
financial instruments and investment funds dedicated to the social sector. In Italy, both from
the side of the bond debt with the bond to reserve the subscription of the bonds to institutional
investors and the setting of a maximum compensation limit that they can get it. Staying on the
supply side other difference found between Italy and the countries in which the industry Impact
Investing has become more developed reference to the birth and development of innovative
financial instruments and investment funds dedicated to the social sector. In Italy, currently,
the only investment funds are represented by Impact Venture Fund In addition, the OPES Fund
and the fund launched by the Italian civil protection through the foundation Etimos to support
local microfinance institutions in Sri Lanka. Of the three, however, only the first invests in the
Italian social fabric, using skills and attracting capital for the creation, support and
development of new start-ups who strive to satisfy the needs of the community primarily in the
social housing sector, the microcredit and health.
The second, launched the foundation OPES in 2013, however, it invests in social enterprises
that operate in favor of the subjects in the "Bottom of the Pyramid" based on their high spatial
and social impact. Currently the fund portfolio contains investments in Kenya, Uganda and
India, while there is no investment reportedly Italy.
Completely absent are the innovative tools that have been discussed in the third chapter; In
fact, in Italy the SIB are at a stage that we can define "embryo." To date there is not the

26
presence of a real is just Social Impact Bond, launched by a government that follows the
structure and the instrument's standard purposes. The only examples of similar tools that come
close to the idea of SIB, but that can not be defined as such, are represented by the
experimental projects carried out by:
 UBI Banca, through the launch of the "UBI community platform" on which were
placed a kind of out of the traditional mold obligations, as provided that funds from the
placement were used for projects with social purpose that create a positive impact on
the area;
Next Bank, through the issuance of bonds to help finance a set of third sector projects mainly
concerning health care, the employment of disadvantaged people and the last in the planning
stage with the city of Naples for the partial resolution of the waste problem.
These examples of social bonds can not be defined traditional SIB for two main reasons: first,
they were not issued by a public authority, but by a private operator; second, these bonds
provide an independent fixed return by the positive impact achieved.
Of which goes to show that the problem can not against, in Italy there is a strong presence of
agencies and institutions interested in the sector, which in recent years have been engaged in
launching tools and pilot projects operating on sociale48, it is given by the lack of Italian
institutions and individuals interested in Impact Investing sector. However, it is easy to see that
Italians investors prefer to invest abroad or through vehicles based in other jurisdictions: this
leads us to think that the reason for the slow development of the Impact Investing sector in
Italy may be due mainly to the Italian legal framework of the third sector that has some
shortcomings.
The current regulatory framework and key reforms
The Italian legal framework of the third sector is currently based on the law no. 381 of 1991,
which regulates the social cooperatives, and the Italian Legislative Decree n. 155 of 2006,
which regulates social enterprises. By focusing on the legislative decree no. 155/2006, from a
systematic point of view, the specific provision introduced by the legislature with regard to
social enterprises in the current environment appears inconsistent, particularly in the light of
Article 3 of Legislative Decree no. 155, that the organizations do not profit can still carry out
business activities, without losing the qualification "non-profit" to the extent that the profits are
not distributed, directly or indirectly, between participants in the risk - emphasizes the

27
constraint of non-distribution of dividends.
Such a forecast made sense historically, when it was valid the argument that organization or
was aimed at maximizing profit, or was a non-profit with charitable purposes. In that context it
was plausible to say that the center of the paradigm between the one and the other type there
was the non-distribution constraint that would allow to distinguish the first from the second.
But in the current environment, where you go in the direction of a social enterprise model that
attracts capital from private parties, the bond of non-distribution of profits to the participants in
the business risk seems limited (National Advisory Board Report Italy, 2014). It becomes even
more compelling when you consider the "Company Benefit", which while remaining real for-
profit companies, work towards creating a positive social impact later recognized and certified.
Unlike the Italian regulatory system which prohibits in all cases, the distribution of profits, the
Community rules allow the distribution of profits, although in exceptional cases.
The EU Regulation 346/2013 in fact defines social enterprise as "a social economy actor whose
main objective is not to generate profits for their owners or shareholders, but exert social
impact. It works by delivering goods and services for the market and uses surpluses mainly for
social purposes "(EU Reg. 346/2013). But it also goes a step further by admitting the
distribution of profits, through the passage: "Where in exceptional cases, an enterprise
qualifying portfolio want to distribute profits to shareholders or members, it needs to have
predefined procedures and rules concerning the manner of such distribution. It is appropriate
that these rules specify that distribution of profits does not affect the social enterprise main
social objective "(EU Reg. No. 346/2013).
It considers that a reform of Italian legislation in order to have harmonized with that of
European rank, in particular what one should aim for is the measurable, positive social impact
generated by the organization through its actions, it seems that the 'goal of "Reform of the
Third Sector" given by the government is currently being debated in the Senate, which will be
treated below.
However, that social investment will become a new source of funding should not only remove
the constraint of non-distribution of profits, but it needs a reform that also relates to the field of
taxation and the relationship between public administration and private sector.
In today's fiscal environment in Italy you are not in the presence of a specific framework for a
social impact investments, except as provided for "Innovative Start-ups social vocation "by
Decree Law 179 of 2012 and the implementing ministerial decree of 30 January 201449.

28
Today the social impact investments to fall in fact in the ordinary regime of taxation of
financial income. In particular, the Framework provides for income derived from participation
in collective investment undertakings referred to in subparagraph g) of art. 44 of the Income
Tax Code, is applied to a withholding tax of 26% in the case of individuals, while in case of
participants engaged in business activities such income would form the business income for the
principle of "inclusiveness" of income d ' company.
Other relevant regulatory aspect for the reflection carried out in this chapter concerns the
relationship between public administration and private, for the creation of potential models of
cooperation between public and private sectors that can be used when the public administration
intends to entrust to an operator private implementation of a project of public utility and the
management of related services. Today the Italian regulatory system manages these
relationships through the discipline of public procurement contained in Legislative Decree 163
of 2006, better known as "Procurement Code". In particular, as regulated by the Procurement
Code, the choice of private entities to be entrusted with the task of carrying out a community
service must be done according to the principles of transparency,
By inserting this provision in the context of creating a contractual relationship between PA and
social enterprises for the implementation of a SIB in Italy, a problem would arise when the PA
would decide to implement a specific selection of the service providers, as often happened in
the SIB examples presented above, as it would not applying the principle of free competition.
On the other hand, whereas research suppliers via the normal public procurement procedure,
because the service is so specific in Italy has never been implemented as innovative as the SIB
would not even conceivable that only a few companies manage to achieve the requirements for
the award, thereby generating incurring too high intakes of research costs. This could be
considered as a further reason to delay the development of SIB in Italy, avoidable by creating a
discipline specifically for the so-called Public Private Partnership, which I think is the basis of
the establishment of contractual relationships necessary for implementation a SIB.
In addition to the difficulties and obstacles to the development of the social impact investments
in its various forms a part of the legislator's commitment also known in Italy, to reform the
regulatory framework in order to pave the way for this new mode of capital investment .
More specifically, a first attempt at reform was carried out a few years ago (Mignone, 2015)
with the introduction of "solidarity bonds" as a source of funds for "social utility" of social
enterprises. With them, the Italian legislature sought to promote a type of financial instrument
issued by institutional / specialized brokers and underwritten by investors remunerated at a

29
lower rate than the market.
The advantage of these tools was the fact that issuers (banks and authorized brokers) could
deduct from their income the difference between the actual interest rate charged for the
issuance of bonds of solidarity and the reference rate, the gross yield monthly average of bonds
issued by banks announced by the Bank of Italy, increased by a fifth. The mechanism
apparently simple, it was found, however perverse with regard to the consequences.
Because, it is true that the lower the return for the investor, the higher the tax advantage for
issuers, but this does not automatically imply that the interest rate applied by them to the
beneficiaries, typically the non-profit organization, is more bass. In addition, the required
financial support was too general: the investor had no idea about the organization that was
actually funding, so the investor may not be motivated nell'accontentarsi of a below market
interest rate. Another consideration is the structure of "solidarity credits", which was typical of
a debt security that you have a profit regardless of the impact measurable and positive social.
This reform did not lead to achieving the desired objectives because it did not allow the
development of an innovative financial instrument capable of solving social problems, but was
perceived as an attempt of combining the normal contribution through a tax incentive.
The last attempt at reform in the approval process in the Senate of the Republic, cited above, it
is given by the enabling act of 10 July 2014 entitled "Reform of the Third Sector".
This reform aims reordering and revision of the rules of private entities of the Third Sector 50
and activities that promote and implement solidarity purposes and general interest.
Specifically, it aims to respect and harmonization with European legislation and new
regulations for the establishment, organizational and administrative functions forms of private
entities, non-profit, promote and implement the public interest and exploitation participation in
social solidarity, or produce or exchange goods or services of social value, including forms of
mutuality with the purpose of social cohesion.
Within the reform has a whole chapter devoted to the revision of legislation on social
enterprises, established by Clause 6. In this article provides a new definition of social
enterprise that allows to harmonize the Italian legislation with the European one, in fact, in
reforming the social enterprise is referred to as "private enterprise for purposes of general
interest, which has as its primary objective the creation of positive social impacts achieved
through the production or exchange of goods or services of social value, which allocates its
profits primarily to achieve social objectives and adopting a responsible management,

30
transparent and promote greater involvement of employees, users and all stakeholders in its
activities ".(Senate, 2016)
This new definition will introduce in the Italian legal system a novelty item than foreseen by
Legislative Decree n. 155/2006, that "the positive social impact," allowing one hand to expand
the pool of organizations that may be framed as social enterprises such as cooperatives and
their consortia, and the other to recall one of the basic features of an Impact Investment.
In addition to the new definition of social enterprise, the reform proposes an expansion of the
areas of social utility, adding the areas covered by Legislative Decree n. 155/2006, including
those of fair trade, services for the job for the involvement of disadvantaged workers, social
housing and the delivery of microcredit by authorized parties in accordance with current
legislation (Art. TUB 111 and 113).
There most important novelty regarding the discussions held on the limits to the development
of the Impact investing in Italy imposed by the current legislation, certainly concerns the
provision of forms of remuneration of the share capital and the distribution of profits. In fact,
the enabling law provides that social enterprises, in analogy with the provisions for prevalently
mutual cooperatives, after assuring in any case the prevailing allocation of profits to the
achievement of social objectives, they can share them subject to certain conditions and
maximum limits and ensuring specific transparency requirements and limits on the
remuneration of corporate officers and pay the holders of governing bodies.
In addition, it is planned to create rules governing tax relief measures and economic support in
favor of the Third Sector organizations. Mainly it refers:
 the introduction of a tax system that facilitates the tertiary sector bodies and taking into
account the solidarity purposes and entity social utility, as well as a tax system
designed to encourage capital investment in them;
 to rationalize and simplify the deduction regime and deductibility of donations, in cash
and in kind, arranged in favor of the entities of the third sector for the purposes of
calculation of the IRES taxable income or income tax;
 the introduction of disclosure requirements of resources for the third sector entities;
 the possibility for social enterprises in raising capital has access to forms of venture
capital funding through online portals, similar to that established for innovative start-
ups;
 the establishment of a special revolving fund intended to finance at favorable

31
conditions investment in capital tangible and intangible assets;
 the promotion allocation to entities operating in the third sector of unused public
buildings, as well as, taking into account the rules governing the matter of real and
personal property confiscated from organized crime, according to simplification and
cost-effective manner, in order to value so appropriate cultural and environmental
heritage.
This reform is certainly a huge step forward in the development and affirmation of the Impact
investing market in Italy, because it removes much of the limits which in recent years have
opposed development of the market. But as long as this reform is not finally approved it in
Italy underlines the lack of a regulatory system conducive to the Impact investing market.
On a positive note that allows to affirm the commitment of the legislator and the willingness of
the Third sector reform, it is given by the recent prediction contained in the law 208 on 28
December 2015 (Stability Law 2016) through which Italy becomes the first country outside the
US to introduce into its legal system, the legal status of "Company Benefit". That is, the legal
status which identifies companies that "in the exercise of an economic activity, as well in order
to divide the profits, pursue one or more purposes of common benefit and operate in a
responsible, sustainable and transparent to people, communities , territories and the
environment, property and cultural and social activities, organizations and associations, and
other stakeholders ". The legal status of Benefit Society adds to existing legal states (Srl, Spa,
etc.) Provided in Book V, Title V and VI of the Civil Code, allowing new companies and
existing ones to have a further opportunity to engage permanently unless the change of legal
status, in creating a positive impact. In fact, when determined according to art. 1, paragraph
377, the Stability Law the purposes mentioned in the definition, must be "consistent with the
Company specifically mentioned the benefits the company and are pursued by a management
process to balance the interests of shareholders and the interest of those on such as social
activities can have an impact. Furthermore, administrators by law or by statute "; that is to
apply the rules governing the liability of directors scheduled for the different types of legal
persons.
The recent legislation requires the Company to give Benefit pubblicità51 the pursuit of a
common benefit through the drafting of a report to be attached to the corporate balance sheet
and to be published on its website, containing information on:
 objectives, methods and actions carried out by the directors in pursuing and any
circumstances which have prevented or slowed down;

32
 positive impact reached;
 Next year prospective targets.
In particular, as regards its impact reached the evaluation must be carried out on the basis of an
external evaluation standards that follow the characteristics defined in Annex 4 of subsection
378 Article. 1 of the Finance Act 2016. It then calls the introduction of a figure of impact
certifier for example based on the model of the statutory auditor of accounts or creating global
platforms such as the Global Impact Investing Rating System (GIIRS), which would enable the
third have a reasonable assurance that the objective of social impact has been achieved.
In addition, when the evaluation according to the provisions in Annex 5 to subsection 378
Article 1, must relate primarily to the analysis of four areas:
 Government business, Which assesses the degree of transparency of policies and
measures adopted in pursuit of common purposes and benefit the involvement of
various stakeholders;
 Workers, Which evaluates the relationship between employees and companies with
regard to compensation and benefits, training and opportunities for personal growth,
quality of working environment, internal communication, flexibility and job security;
Other stakeholdersWhere they carry out an assessment on the relations of the
company with its suppliers, with the area and the local communities in which it
operates, the volunteer work, donations, cultural and social activities, and any action to
support local development and its supply chain;
 Environment, Which assesses the impact of the company operations in terms of
resource use, energy, raw materials, production processes, logistics and distribution
processes, use and consumption of products or services.
The evaluation of these areas makes it possible to be able to see how your company's
commitment to achieve the purposes of public utility, as are assessed key aspects that if
managed in a certain way can allow a company to differentiate itself.
In my opinion, the introduction of the legal status of the Company Benefit and subsequent final
approval of the third sector reform, allow us to say that Italy, though later than other countries,
is implementing a strategy of adaptation regulatory system that allow the development of the

33
Impact investing industry and everything related to it, in order to exploit the advantages built
into this new idea of capital investment, and succeed on the one hand to lift the economy of our
country and on the other to offer a better quality of life to all the Italian people.
Literature Review
3.1 Cost impact of violation of Bond Covenant
The role played by the bond covenant as well as conflicts arising between shareholders
and the debt holders, have found an organic classification in the words of authors . Using
certain assumptions concerned with the structure of a business firm, of which one most
important is the dearth of agency costs, the authors have spotted 3 main areas of conflict:
• Payment of dividends
• Dilution of claims
• Substitution of assets
Up till the primary years of the current decade, the companies in Italy, recurred to the bond
market in Italy for financing of their activities. The general scenario was that the liability of the
emission of the securities pertained to Dutch or any Luxembourger company and then the
bondholders were represented by British trustee . The usage of the “foreign legal scheme” as
well as the deficiency of the consequent bondholders regarding getting a poorer financial
position of lenders might be emphasized as one main reason behind the Parmalat & Cirio crisis
.
In fact debt that is issued by an organization has one financial as well as one structural
component. The first has a relation to the financial risks, owing to the fact that the debt price
alters as per the variation of the rate of interest. The 2nd component has a relation to the
business related risks, which is estimated based on the fluctuation in the asset value. The cash
that flows to debt holders generally do not have any context to the second component. Hence
any kind of alteration in the business related risks concerned with the bond issue impacts an
indirect change in “market price”. In surplus to this additive, “conflict of interest” also seeds
out of various patterns of rights to cash flows of the two subject groups. The residual cash flow
is received by the shareholders, after the payments of the bondholders, who are entitled to fixed
cash flows, are cleared . The stakeholders’ minimal liability to the net capital, accompanied
with the bankruptcy costs might also turn out to be fruitful for changing the risk preferences of
the shareholders as well as the debt holders .
The same can also be minimized by inclusion of appropriate covenants in the bond

34
contracts for influencing the policies of a firm as well as reducing the wealth transfer to
shareholders. In analyzing the capability of a covenant in reducing the conflict of interest, the
interrelation of the activities that are restricted by the covenants also needs to be considered.
Setting of a limitation on the dividend payments, for evidence by setting dividends which are
equal to a certain fraction of the net income, affects investment decisions in an indirect manner.
The reason is that it might preclude the business firm from distributing cash to the shareholders
which would have been otherwise used for financing of the investments . The bond covenants
that restrict the ability of a company for issuing more senior debt or in a more general sense,
the protection of the bondholders from dilutive effects on the rights of cash flow are ensured by
designing further debt. On top of that, the bond covenants on the overall borrowing, passively
work towards reducing the firms’ attitude of over-investment. This is done by restricting the
financial decisions of the firm. This in turn protects the bond holders from substitution of
existing assets of the company with riskier ones. Covenant protection that the investors get, is
reliant on a number of parameters, defining the risk profile of the issuer. In turn, these likely
depends on the characteristics of the issuer, which influences the perception of credit risk of
the investors. On top of that, the investors may determine the terms in the debt, including
covenant protection, in order to suit the risk profile of the firm. Researchers have also
confirmed that the alignment between covenant usage as well as cost of debt differs across the
segments with incidences that tends to follow the credit rating of the followers. For instance,
the average yield spreads are lesser when the protective power is mightier within the AAA
rated as well as AA rated classes of bond (Bazzana Zadorozhnaya and Gabriele 2018). In a
similar way, the restrictions up on the mergers as well as the asset sales are often considered as
a way of mitigation of the asset substitution. The covenants frequently designed for the
prevention of the so-called underinvestment issues. Leveraging restrictions that enhance
seniority of the new debts are feasible steps that can reduce the problem through limiting the
freeness of spending the free flow of cash by the company . By means of this, the management
is somewhat forced at investing or developing resources.
Again, this should be clearly stated that the usage of covenants includes costs at certain
level, both for the organization which incorporate the limiting clauses in debt contracts and for
debt holders, that subscribes to instruments of debt covenant. It should be regarded that
covenants are always costly for the organization since they account to restricting future
financing as well as investment flexibility. Effectively, the restrictive covenants might turn out
to be more bearable for the companies that has low opportunity of growth. There are other
advantages of the restrictive covenants also. One important benefit is Underinvestment. This is

35
a problem for the levered and the high growth firms. Since the growth opportunities are the real
options for the stakeholders and the organizational managers, the future value of such
opportunities is heavily reliant on the managerial discretions, rather than the value of the
assets. Another important prospect of restrictive covenants is asset substitution. After bond
issuing, as Robert et al. (2001), stakeholders might easily expropriate money from debt holders
by shifting from safer to riskier business environment. This call might suggest to be valuable
since this brings about a variance in the flow of cash. The covenants which restricts the
production of the borrowing firm, is valuable since they reduce the possibilities of asset
substitution. Parallely, the hindrances to flexibility are being compensated by diminished rate
of interest which the business firm pays to bondholders in comparison to bond of equivalent
value without the covenants. Another type of cost is that which comprises of the violation
costs. This is another important fact that in case if the organization violates the terms of the
covenant, the creditor might normally need an early repayment or a renegotiation. In any case,
the organization as well as the creditors should bear a certain number of costs that can
effectively reduce efficiency of the covenants. Three types of violation costs can be
considered:
• Costs of renegotiation
• Costs of refinancing
• Cost of restructuring
The first cost is related with the time that is spent by the manager for negotiation and for
redefinition of the debt contract. Such costs are typically inclusive of the fees allotted for the
attorneys, auditing as well as accountants . The refinancing costs comprise of a higher rate of
interest on the debt issued newly following the violation of the covenant. In the end, the costs
of restructuring are associated with the policy changes of the company after the violation.
Evidences can be provided in this context. The request to reduce the financial leverage or
diminishing of business performance owing to asset liquidation are such evidences. The costs
of refinancing as well as renegotiation are mainly borne by debtor, whereas the renegotiation
costs are generally payable by the lender.
3.2 The role played by cost of covenant in bond issue
There are two perceived revenue-cost models. One is for the company and another is for
the bond holders. In the case of the first model, the company is subjected to 2 kinds of costs,
reduction of flexibility in the business policies and also the expected cost of violation of the
covenants and lastly one kind of revenue, the lower rate of interest compared to one equivalent

36
bond without covenants. If it is supposed that a company have to issue one bond of nominal
value D, as well as choose from one standard contract with spread s as well as another with one
financial covenant along with reduction b on that spread. “d” is defined as relative distance
from current value of financial ratio of the business organization to the “threshold” valuation of
the ratio as dictated by the covenant, and pF is the probability of violation of the covenant, and
that value of that is based up on the estimation of the company . “F” is considered as the cost
that has to be borne for the loss of flexibility in the corporate policy and then CF is considered
as cost of total violation, that account for refinancing as well as restructuring costs. Both costs
are evaluated in monetary terms. For the simplification of the scenario, risk neutrality can be
assumed . This is how, only the expected values of the issues would be taken in to account only
. The issue with the covenants will be chosen by the company, only when:
If both the terms are divided by the bond’s face value (D), we would get:
Where:
Both, costs for flexibility loss as well as probability of violation diminish in context to d, that
is:
The choice that is set for the firm is expressed by:
As expressed in the last equation, the decision to issue one bond covenant is taken by the firm
only when the combination for the spread reduction (b) as well as the distance to covenant
threshold (d) are such that total costs are lower than benefits of the financing costs. Provided
that cost as well as revenue are having a negative relation with d, the company have to balance
a tradeoff . The objective function of the firm towards maximization is thus expressed in the
equation stated immediately above, that is subject to constraints of the bond holders, as it is
explained in the succeeding paragraph.
In context to the 2nd model, the bondholders are subject to denomination of spread (b)
and also subject to the costs of renegotiation in case of the violation of covenant CB, where the
latter have a negative relation resting on the coordination level of bondholders, overall. There
is another cost that is related to the monitoring of the company MB, that also depending on the
coordination level of the bond holders. A level of coordination have been set with the
parameter C0 that ranges from 0, in context of maximization of the coordination level of bond

37
holders up to 1.
3.3 Introduction of new securities in Corporate Financial Market of Italy
The Company laws reform of 2003 brought about some significant changes in Civil Code
of 1942 . This helped to overcome the historic limitations that were suffered by the corporate
financial market of the country. Initially, only two forms of securities were provided by the
Code in favor of the public company model, particularly, bonds and shares .
The reform of 2003 led to enhanced fading of the initial differences between the two
kinds of securities admitted for s.p.a by allowing the companies to modify them freely in
accordance with some of the limited principles and by introduction of the new financial hybrid
instruments .
Such securities are advocated by the article 2346, 6th co., civil code that allows the
issuers to link debt more stringently with the corporate affairs. Indeed the security owners
might participate in the affairs of the corporations in 2 separate ways: one main way is
exposure of the value of securities to the entrepreneur risk partially or even wholly . The
second way holds a possibility for creditors so that they can directly participate in the
management thereby gaining the right to vote regarding some predetermined issues or vote for
the nomination of a director who would be independent . The freedom related to match these
characteristics differently enables the issuers to develop debt securities which are not exposed
directly to the normal bonds, but the right to elect a qualified member from the board or vote
up on predetermined arguments such as vetoing about the new financial operations or
covenants that are similar th ereby giving rights to approve manager’s decision to the holders.
However, it requires mention that the 2003 reform was not able to modify in depth the
article 2410-2420-ter c.c that regulates the issues like non-participating bonds as well as
assembly of underwriters. The best amendments was regarding the removal of issuing limit
system for listed s.p.a, in the favour of market monitoring of sustainable indebtedness of the
companies. This appears to sustain the criticism over the legal capital rules that have been
voiced by some authors, at least partially. In contrast, the reform did not change the part of the
civil code which regulates the assembly body of the bond holders. The central duties of the
assembly tend to be approving debt renegotiation proposals as well as election of one delegate,
the single direct counterpart of s.p.a on issues regarding the debt contract. However, owing to
the indifference of the debtors, the Court generally chooses the delegate based on the request
by the s.p.a management . Any ways, the representative of the bond holders lacks prominent
powers for checking the moves of the issuers, as he only has the access to the shareholders’

38
meetings reading debate minutes and look in to the register of the shareholders. However he do
not have access to the most important account books of the shareholders. Such limitations
diminish the capacity of the delegate for perceiving the financial distress of the company as
well as propose preventive debt renegotiation which requires approval of the majority of the
bond holders . However, this particular organizational formula works only in case of bonds and
also for trend related hybrid securities of the company by the dint of article 2411, 3rd comma
c.c. On the other hand the 2376 c.c provides that owners of the administrative participating
hybrids, if not the trend related hybrids of the company should be meeting in assembly to vote
on the proposal to modify the administrative rights in compliance with rules governing
extraordinary meetings of the shareholders, without the right to nominate delegate as the bond
holders do.
Both of the decribed legal frameworks seems that they lack the efficacy of preventing the
default of a borrower, primarily because of the fact that vote of the assembly needs a long time
of interval that normally acts as a determinant for approving one debt renegotiation plan
followed by an unexpected financial crisis. Moreover, the article 2376 c.c provides
considerable issues regarding unifying the bond holders’ will which is often represented as
money savers without sufficient financial culture owing to the lack of a delegate who would
play the role of one active sentinel and parallely as one unique contractual counterpart for the
board of directors of the company . Nevertheless, the article 2376 c.c gives permission to
contractual improvement of legal discipline through provision of a representative mechanism
that is akin to the supertrustee for managing economic terms of debt that is not regulated by
law .
3.4 Italian Bonds Market Proposal
Trust Indenture Act, 1939 that is codified at 15 U.S. Code § 77aaa through § 77bbbb
restricts offering of bond issues for sale bereaved of one formal written agreement which lays
out fully the details of bond issue. This particular act also stipulates one trustee should be
appointed for protecting the bond investors. In case if it so happens that one bond issuer
becomes insolvent, the trustee who is appointed might receive rights to seize the assets of the
issuer and then sell them for recouping the investments of the bondholders. The primary
difference among the delegate of the Italian bond holders as well as the trustee who is provided
Trust Indenture Act is a form of extension of the powers of the latter, who should implement
them in cases of default with “same degree of care and skill ... as a prudent man” would make
use of the affairs of his own. This freedom of operations was being criticized by Schwarcz and
Sergi for becoming excessively ministerial at the pre-default position and then excessively

39
weak in post-default position, as if there is no urge of maximising the value return of the bond
holders. However, this has been covered by article 77ppp(a)(1) that directs maximum bond
holders to direct the time, place, and method of conduction of any proceeding for any sort of
remedy that is available to such trustees or implementing any power that is conferred up on the
trustees and on the behalf of holders of similar indenture securities, to consent to the waiver of
any past default and its consequences. Moreover the bond holders with more than three fourth
of indenture securities value might consent in the place of all holders, for postponing the
interest payments for a certain period which would not exceed 3 years starting from that due
date (77ppp(a) (2)).
The supertrustee proposal aims at improving the tasks as well as duties of trustee in pre-
default position based on the strength of one agreement which includes the strength of one
agreement, incorporating the power to act without dependence up on the bondholders based on
a standard of business judgement. In fact, authors like Schmidt, Schwarcz as well as Sergi also
advocates this particular decision. From a perspective based on the market, there should be a
voluntary adoption of one “supertrustee”. The organisation should consider balancing the
burden of financing such one as well as the benefits of reducing the borrowing costs that is
achieved by using of the more stringent bond covenants such as resulting out of a better and
more efficient relationship with the dispered debt holders. The same legal scheme can
probably also be borrowed by Italian corporate dispered debt market.
As it is evident in the previous paragraph, the Civil Code of Italy provides two separate
representation models for the dispersed debt creditors of s.p.a (the assembly of the bond
holders) as well as delegates’ model for the bonds and for the trend related debt securities of
the company. In high contrast, the special assembly method is being admitted for the
administrative particopating hybrids. From the perspective of the debtors, the latter seems to be
the most influencial type of securities that has been introduced in the 2003 reform as these
gave them the opportunity of inserting one sentinel withon the cire business area of the
company. Anyways, the lack of one representative figure is one strong obstacle in the way of
the success of one hypothetical renegotiation in both cases of the pre-default position as well as
that of a covenant breach. The legal deadlock can be broken partially through contractual
implementation of the narrow discipline that is contained in article 2376 c.c and by
introduction of the opportunity to let the financial markets’ counterparts negotiate one
alternative model of the representation which is much akin to the “supertrustee”. This solution
can simply be achieved through insertion of one mandatory representation of one investment
firm in to the debt contract. This solution have ben exercing custodianship as well as

40
administration of the financial instruments for the clients’ accounts (as it is followed by
legislative decree number 58 of the article 199, article 1, co.6 (a), that is implementable
through insertion of one appropriate clause in the prospectus (vide provision 4.13 of the
Annexure V of the EC regulation number 809/2004. The financial institution of a bank or any
other investment firm that is organising as one lead manager might promote this mode of
representation directly, through election of one affiliated or 3rd party investment company as
the only delegate of the security holders who have been mandated to exercise absolute power
based on the business judgement standard with expres consent of the under writers needed by
legislative decree number 58 of 1998, article number 21, co. 2 .
The operational freedom of the delegate should be inclusive of the power for signing the
debt renovation agreements as well as transactions concerning financial terms of debt which
includes most part of feasible covenants excepting the modification of active administrative
righst that are in compliance with the article 2376 c.c. Nevertheless, such services should not
be representing one kind of portfolio managemant since it would not be counted service based
on the “client to client basis” rather mass debt administration akin to that which is exercised by
the delegate of the bond holders although that includes extraordinary tasks of management.
The prospectus can also recognise the right of the debtors for vetoing the core terms of the
proosal for renegotiation which Amihud and Kahan proposes as a secondary as well as sub
optimal choice.
The proposal would reduce costs incurred in context of violating of the covenant CB
(CO). The firm’s necessary condition would become wider as the difference would become
larger. In such a state, a bond would be issued by the firm with lower value of “d” as well as
the probability of choosing one standard bond in place of a bond with a covenant would
reduce altogether . The same proposal would also lessen the monitoring cost mB (co), and so
admnistration costs which is quite irrelevant during the ordinary phase (mainly the fee of the
independent director) could be easily sustained by the debt holders. The necessary condition is
is however not changed by this cost. The monitoring cost can well be sustained as well by the
investment firm or the issuer as incentive for that issue. In the case if a breach happens to the
covenant or in the case of default of payment, the cost of renegotiation (for evidence, the cost
incurred by extraordinary monitoring, or, if required, the cost of assembly of the bond holders)
is payable by the issuer (or also the investment firm that is partially charged with them) for
defending the value maximisation principle of the creditors and for avoiding stimulation of
opportunistic behaviour among the debtors. In such a case, the firm’s choice set would be
restricted owing to the fact that the total costs of violation for the company would increase.

41
Hence, this possibility should only be implemented in the context of the complex covenants as
underpinned by the supertrustee model where compensation should be higher for the bonds
having more complex covenants, since the bonds issued by the companies with operating
characteristics that are further complicated and less transparent as well as the bonds having
further credit risks and for the one more intense monitoring is needed and higher renegotiation
is required .
The costs in the context of violation of covenants generally increase with the level of
complexity of the structure of the covnant. At the low complexity of the covenants, they could
be assigned to bond holders, than for the organisation or the investment firm mainly owing to
the fact that the different levels of information as well as the various levels of financial
knowledge. Hence, in such a case, for reducing the costs, they should be assigned to the
company.
The issue regarding possible conflict of interests among the bond holders as well as the
lead investment managers or the affiliated company could be solved by giving opportunity of
changing the delegate to the creditors with the majority imposed by the article 2376 c.c and to
select another company that would supply the same service. As suggested by the authors of the
supertrustee model, a debt contract should be providing one list of candidates that is submitted
by the borrower for reduction of the dangers of dealing with the opportunistic representative
firms that is designated by the bond holders . On top of that, the risk associated to ruining their
reputation with the clients or of becoming defendants in a class action suit that is injunctive
(that which is introduced in financial market of Italy, very lately) might be considered surplus
incentives to get the investment company to fulfill its reprsentative duties effectively.
Bond covenants can turn out to be an effective tool for reduction of the conflict f interests
between shareholders as well as the bond holders. Paucity of communication among the bond
holders might however reduce the efficiency of these instruments owing to the high expected
renegotiation costs following the covenant violations. In fact the empirical evidence depicts
that in the case of the bank loans where there is high coordination, violation costs are on the
lower side and the usage of covenants have better efficiency . With assistance of one theoritical
model for issuing bonds, it is easier to perceive the costs of coordination lack among the bond
holders. It is also easy to verify the efficiency of using covenants if the bond holders decide to
create one “supertrustee”. Various authors have suggested this possibility for the market in US.
Follwing this directionm even if not applicable directly, it can be proposed that its application
in the Italian Law would be feasible by just allowing the insertion of one mandatory
representation in to the new financial hybrid contracts . The representation, which is an

42
alternative to this model and provided by the Civil Code of Italy, would provide an investment
firm ti exercise administration of the financial instruments and the right to take action will
absolute power on the behalf of holders of all the securities.
3.5 The conflicts related to the Debt Equity agency
Such conflicts have its roots in widespead henomenon of the modern day large
corporations. The fundamental cause behind the conflict is seperation of control from
ownership. The basic problem in the corporate governance in the countries which share
economies that have prolific shareholder protection is actually to aggravate the conflict of
interest among the dispersed owners as well as the powerful as well as controling managers .
These agents’ interests (having the power to control the major outcomes in the organisation)
are not at all in he same line as that of the principals (shareholders). From this point of view,
the conflicts recognised as the “agency problems” surge up because of the fact that the
managers pursue their own will and interest at the expense of the shareholders.
However, debate regarding corporate governance in Europe as well as in most of the
world is primarily centered on an altogether different phenomenon. Whereas in the US, there
are comoaratively fewer organisations which the large blck holders control, most of the listed
companies n the world are having one concentrated structure of ownership in the way of single
block holdings families or the state which can control the maximum number of votes. Often the
ultimate controling authorities have the controling authority without even having the large
proportions of the cash flow rights. They do this by means of pryramids, cross holdings as well
as dual class shares.
The variations in the ownership structures lead to variation of perspectives in the
coceptualisation of the agency conflicts and consequently in the corporate governance also. In
fact the controlling stakeholders can be generally expected to have minimum agency conflicts
with the managers . During the times when there is a more concentrated ownership, owners are
having both incentives as well as power that helps in direct selection, monitoring as well as
rewarding the managers. As an obvious outcome, the managerial incentives can be mostly
expected to be aligned with the incentives of the stakeholders.
3.6 Analysis of the first time issuers in the Italian bond market
In comparison to the bank loans, the bonds generally incur lesser costs of monitoring,
higher level of difficulty in renegotiation owing to a greater number of subscribers, fewer
number of gurantees or restrictive covenants, longer maturity periods as well as stricter

43
requirements for disclosure. Even if this is an evident fact that such characteristics are best
prominent in the public issuances, these frequently apply to the private placements also. Loan
information fluctuates across loans, however almost always including borrowers, lenders, loan
amount, loan types, maturity, deal purpose as well as pricing. The revolving loans that enables
the borrowers to extract down capital over the time comprises of maximum loans, generally
(Bradley and Roberts, 2015).
We divide the various covenants into two broad categories: covenants that restrict dividend and
financing activities of the firm and covenants that restrict restructuring or investment decisions.
The first category includes limits on payment of dividends and other distributions, limits on the
issuance of additional debt, limits on mortgages and encumbrances (negative pledge clauses),
and limits on sale/leasebacks of property. While Smith and Warner (1979) separate the
dividend limitations from the other financing restrictions in their categorization of covenants,
we include these covenants with the financing restrictions because they also fundamentally
affect the availability of cash within the firm. The second category consists of merger
restrictions, change-of-control covenants (poison puts), and limits on asset sales. We consider
the variation in the inclusion of each type of limitation on the basis of the firm’s investment
opportunities and financial distress costs. Throughout the following discussion, we base the
summary statistics and regression analysis on the 496 bond indentures with Composted data
available for the issuing firm, unless otherwise noted.
Based on the Ecnomic Theory it can be confided that the reputation of a business firm in
terms of quality of project or their financial soundness is one basic factor that affects the
decision of a company to enter the bonds’ market. Many authors have suggsted that as
financing by the banks incorporates a greater degree of monitroing by the financial institutions
compared to the bond investors, the business firms starts issuing bonds after they established a
reputaion of making profitable use of the resources which mitigates the effect of the moral
hazards . So far as the economic equilibrium is concerned, the firms that are at a position of
higher risks can also find it feasible to issue bonds owing to the restricted gains that they get
from the monitoring of the banks. The risk taken by the firms affects the decision of entering
the bond market, in turn emphasising the large number of difficulties involved in the
renegotiation of debts with ample number of creditors . This would implore the high risk
borrowers to make use of bond financing in lesser frequency compared to bank financing
because of the fact that the banks are able to ensure better and more efficient liquadition or
ensure the continuity of the business in the cases of distress. Many of the authors have also
professed the beter reorganisation skills of the bank and parallely exhibits through research that

44
arm’s length borrowing is mainly conducted by the large and profitable companies which have
a high proportion of tangible assets.
The predictions made during the course of the Myers’ debt Overhang Model in the
context of the maturity choices of the firm are also applicable in the context of taking decision
regarding issuing of bonds. The theory states that the companies with hugher opportunities of
growth tends to enter in to the cmoaratively shorter debt terms (and definitely not issue bonds)
so that the sharing of benefits regarding the future growth options with the debt holders can be
avoided.
Most of the empirical literature emphasise on the macroeconomic factors (for example
GDP, fiscal policy, market volatility, inflation) for investing the cross-country differences
regarding the size of the bond markets or to focus on the sudden enhancement of the number of
insurances in the defnite periods. Only some of the empirical studies deal in specific with the
decision of issuing bonds so that the main characteristics of the issuers can be identified.
The financial consitions also hav a direct interrelation with the capability of the business
firms to issue bonds. Some of the authors hav also spotted a negative co-relation within
leverage as well as bond issuance, an outcome that is well coherent with the hypothesis of a
tougher access to the market for the companies’ that have a higher level of fragile
financial fiancial structure. Other empirical studies confirm that high level of leverge can
become a signal for higher profits and good credit standing as well as capacity of borrowing.
However in most of the analytical studies, there is no distincion between the first time
users and the seasoned users. However many authors have explicitly addressed this concern
through study of the initial public offerings of the Bonds that are listed under the US Industrial
and Financial corporations. Through a Probit analysis, they document the positive effect of the
firm size and the financing needs, on the probability of the issue of bonds. It has also been
observed that the cmpanies that are larger and are having more opportunities of investment
generally undertakes their bond IPO earlier . In this context it has also been observed that past
experience of private bond issuance and syndicted loans generally accelarates the entry in to
the market of public bonds. This symnolises that these firms might have already become a
significant part of fixed costs that are in associatin with market financing.
3.6 The Italian Corporate Bond market
Overall there have been 160 non financial firms that have been accessing the Italian
market since 2002 till 2013. Again the average number of annual gross issues have been 25
billion . During the period 2002 to 2008, the issuance limit have been 32 billion every year
approximtely. In spite of such a prolific increase, after 2008, the number of placements

45
slackened.
Very different pattern ave been observed in the issuance volumes of the large firms on
one hand and the SMEs on the other. At the time of this crisis, the large compaies increased
their placements, partly offsetting the reduction in the bank credit with added debt securities.
Maximum number of issues were positioned in the international market. In contrast to that, the
small and the medium enterprises, made a significant deduction in the number as well as the
volume of placements. Going on a different line from the large firms, the small and medium
sized enterprises almost exclusively tap the domestic market, that is primarily bank driven and
where the liquidity is much lesser compared to the international market.
The small companies are affected by their recourse to the bonds’ market through a certain
number of factors. The bonds that are issued by the SMEs are often perceived to be
unappealing by the instititional investors. This is owing to the low liquidity of the firms and
high level of credit risks. Parallely, many businesses are not interested to bear the cost owing to
greater transparency level that is needed by the market. To promote the entry of moe SMEs in
the bonds’ market, the governent have issued more favourable bond issuance system by the
non-listed systems which are called minibonds . Since the first placement in the November of
2012, till the end of 2014, 70 issuances of mini bonds for total €7.1 billion have taken place.
The average size of the issues fell significantly in the year 2014. Ranging from 2002 to 2013,
the first time issuers numbered over 1250. During the crisis period, the number of new entrants
deceased considerably and this holds true particularly for the SMEs. The sectorial composition
of the new issuers is quite different for the small and mediu enterprises and the large
companies. Manufacturng as well as service account for almost 73% of the large companies in
cmparison to 44% of the SMEs; the share construction as well as real estate is 6 percent for the
bigger companies and the same is only 31 percent for the small and medium enterprises . The
sectors have shown a sharper drop in number of the new users at the time when the crises had
been at rise, particularly for the SMEs and the real estate as well as the construction firms.
3.7 Interlocking directors as monitoring mechanisms
When a firm chooses to raise debt capital, it is involved in a set of explicit and
implicit arrangements with creditors. Explicit arrangements are those related to the formal
settlement of the details of the financing. Lenders may indirectly control firms by
imposing contractual agreements that limit managerial decisions over the strategic
activities of the firm. However, it is difficult to design contractual mechanisms to
make firms keep a given risk profile or avoid excessive consumption of private benefits

46
from shareholders/managers. As a result, formal mechanisms only indirectly and partially
mitigate agency problems. In fact debt that is issued by an organization has one financial as
well as one structural component . The first has a relation to the financial risks, owing to the
fact that the debt price alters as per the variation of the rate of interest. The 2nd component has
a relation to the business related risks, which is estimated based on the fluctuation in the asset
value. The cash that flows to debt holders generally do not have any context to the second
component. Hence any kind of alteration in the business related risks concerned with the bond
issue impacts an indirect change in “market price”. In surplus to this additive, “conflict of
interest” also seeds out of various patterns of rights to cash flows of the two subject groups.
The residual cash flow is received by the shareholders, after the payments of the bondholders,
who are entitled to fixed cash flows, are cleared. The stakeholders’ minimal liability to the net
capital, accompanied with the bankruptcy costs might also turn out to be fruitful for changing
the risk preferences of the shareholders as well as the debt holders ().Trust Indenture Act, 1939
that is codified at 15 U.S. Code § 77aaa through § 77bbbb restricts offering of bond issues for
sale bereaved of one formal written agreement which lays out fully the details of bond issue.
This particular act also stipulates one trustee should be appointed for protecting the bond
investors. In case if it so happens that one bond issuer becomes insolvent, the trustee who is
appointed might receive rights to seize the assets of the issuer and then sell them for recouping
the investments of the bondholders. The primary difference among the delegate of the Italian
bond holders as well as the trustee who is provided Trust Indenture Act is a form of extension
of the powers of the latter, who should implement them in cases of default with “same degree
of care and skill ... as a prudent man” would make use of the affairs of his own . This freedom
of operations was being criticized by Schwarcz and Sergi for becoming excessively ministerial
at the pre-default position and then excessively weak in post-default position, as if there is no
urge of maximising the value return of the bond holders . However, this has been covered by
article 77ppp(a)(1) that directs maximum bond holders to direct the time, place, and method of
conduction of any proceeding for any sort of remedy that is available to such trustees or
implementing any power that is conferred up on the trustees and on the behalf of holders of
similar indenture securities, to consent to the waiver of any past default and its consequences.
3.8 Multivariate analysis
In this section, there have been an analysis of the factors that potentially influence the
probability to enter the bond market in a multivariate context.
3.8.1 The empirical model

47
The econometric analysis is based on the following model:
p(Yj,t=1) = F(α + β1LOGSALESj,t-1 + β2AGEj,t + β3HIGH_GROWTHj,t-1 +
β4GROWTHj,t-1 + β5 INVESTj,t-1 + β6 EBITDAj,t-1 + β7LEVERAGEj,t-1 +
β8SHORTDEBTj,t-1 + β9 FIXED_ASSETSj,t-1 + β10 SHORTDEBTj,t-
1*FIXED_ASSETSj,t-1 + β11 LISTEDj,t),
Where p (Yj,t=1) is the probability that firm j in year t issues a bond for the first time and
F is a logistic distribution function. As the proportion of issuers is very small, around 0.05 per
cent, estimates might be affected by a rare events bias, which typically leads to an
underestimation of the probability of the event. We correct for this bias using the algorithm
suggested by King and Zeng (2001). The variables on the right-hand side of the
model include proxies of firms’ characteristics that the literature indicates as relevant for
the decision to enter the bond market. On the demand side, we try to catch firms’ capacity to
finance investments, the need to rebalance their financial structure (by closing the maturity
mismatch between assets and liabilities, diversifying financing sources, or reducing
funding costs), and the ability to bear the fixed costs of bond issuance; on the
supply side, we include proxies of firms’ creditworthiness, which depends on financial
soundness, transparency and reputation .
In order to proxy for the financing needs associated with growth and investment in
fixed assets we include two dummies based on the change in sales between t-2 and t-
1(GROWTH, equal to 1 when the rate of sales growth lies between 0 and the median value of
the positive growth, computed for each sector and year; HIGH_GROWTH, equal to 1
when the rate is higher than the median). As a proxy for financing needs we also include a
measure of investments (INVEST, investments over sales). Because decisions on external
financing depend inversely on the ability of firms to finance investments through internal
resources, we also include firms’ profitability, measured by EBITDA over total assets
(EBITDA). To control for the maturity mismatch between assets and liabilities, which
could prompt firms to lengthen their debt maturity by issuing bonds, we include the share of
short-term debt and that of tangible fixed assets over total assets (
SHORTDEBT and FIXED_ASSETS, respectively) and the interaction between the two. To
account for factors such as transparency to investors, reputation and the impact of issuing
fixed costs, we use firms’ size, measured by the logarithm of sales (
LOGSALES). For the same reason we also include the firms’ age (AGE) and a dummy
for listed firms (LISTED). This last variable also allows us to take in account the effects of a
different regulatory framework for listed and non-listed firms.

48
We also take into account firms’ leverage, measured by financial debt over the sum of
financial debt and equity (LEVERAGE), as a proxy of financial soundness and credit risk.
Finally, we add a set of dummies to control for time, sector and geographical factors .
The main results are as follows.
Financing needs In line with the results of Datta et al. (2000) and Hale and Santos (2008), we
find that on average new issuers are firms that need to finance investments and growth
projects. The coefficients of INVEST and GROWTH are positive and statistically
significant in all the specifications of Table 1. A one standard deviation increase in
investments over sales raises the predicted probability by about 16 per cent (see Table
2). Firms with low but positive growth rates have 23 per cent more probability of
entering the market than firms with negative growth rates . Instead, firms with high ratesof
change in sales (HIGH_GROWTH) do not have a significantly higher probability of entering
the bond market; a possible explanation for this result is that investors could perceive firms
with very high growth to be too risky.
The importance of firms’ financing needs is confirmed by the negative coefficient
of EBITDA: the probability of issuing a bond rises as the availability of internal funds
decreases.21. The negative effect of EBITDA might also be linked to firms’ credit risk,
assuming that low-performing firms issue bonds because they are rejected by banks. To
control for this hypothesis we let EBITDA interact with investments: in the model presented in
column 3 of Table 1 INVEST and EBITDA have been substituted with three dummies: one for
firms with low EBITDA, one for firms with high investments (according to the median values
of the continuous variables), and one for their interaction term. The marginal effect of
the interaction between the two dummies is positive and significant, suggesting that the
negative effect of EBITDA is stronger when investments are high and thus confirming
the financing need hypothesis . As a further check we specify a model with a dummy for low
profitability, a dummy for riskier firms and an interaction term between the two (col. 4,
Table 1). The marginal effect of the interaction term is not significantly different from
zero, strengthening the interpretation that, in the baseline model, EBITDA is not catching the
effect of firms’ risk (Reisel et al. 2016).
Table 1

49
Table 2
3.9 Other Market Dynamics
Systematic risk
According to Elton, Gruber, Agrawal and Mann (2001), losses stemming from expected
defaults come last among the three factors that can explain (i.e. breakdown) corporate spreads
– expected losses are found to explain only 17.8% of the variation in the spread. Differential
taxes appear to be more important and explain about 36% of the spread. The remaining portion
of the spread (more than 46%) is found to be closely related to the factors commonly accepted
as explaining risk premia for common stocks, i.e. the Fama French factors. Hence, a large
portion of the spread seems to be compensation for systematic risk that cannot be diversified
away. In fact, the large firms mostly fail since they are much diversified. They have less
amount of volatile earnings, and they can sell assets at the time of their distress. With an
increment in the coverage of the big companies, the lenders might be more likely in accepting
flexible covenants. In fact, researchers like Belanès et al. (2018), opine that large firms are able
to benefit from the flexibility of the covenants during the time of debt agreements.
Volatility
Campbell and Taksler (2003) analysed the effects of equity volatility on corporate bond yields,
and showed that idiosyncratic volatility was directly related to the cost of borrowing for
corporate issuers. Furthermore, the results also suggest that volatility can explain as much
cross-sectional variation in yields as credit ratings.
Supply and demand
Using dealers’ quotes and transaction prices for industrial bonds, Collin-Dufresne, Goldstein
and Martin (2001) investigated the determinants of credit spread changes. Their results
show that variables, which in theory determine credit spread changes, have limited
explanatory power. Rather, using principal component analysis, they show that most of the
residuals are driven by a single factor . Monthly credit spread changes appear to be driven
principally by local supply/demand shocks that are independent of both credit-risk factors and
liquidity.
the Civil Code of Italy provides two separate representation models for the dispersed debt
creditors of s.p.a (the assembly of the bond holders) as well as delegates’ model for the bonds
and for the trend related debt securities of the company. In high contrast, the special assembly
method is being admitted for the administrative particopating hybrids. From the perspective of
the debtors, the latter seems to be the most influencial type of securities that has been
introduced in the 2003 reform as these gave them the opportunity of inserting one sentinel

50
withon the cire business area of the company. Anyways, the lack of one representative figure is
one strong obstacle in the way of the success of one hypothetical renegotiation in both cases of
the pre-default position as well as that of a covenant breach . The legal deadlock can be broken
partially through contractual implementation of the narrow discipline that is contained in
article 2376 c.c and by introduction of the opportunity to let the financial markets’ counterparts
negotiate one alternative model of the representation which is much akin to the “supertrustee”.
This solution can simply be achieved through insertion of one mandatory representation of one
investment firm in to the debt contract. This solution have ben exercing custodianship as well
as administration of the financial instruments for the clients’ accounts (as it is followed by
legislative decree number 58 of the article 199, article 1, co.6 (a), that is implementable
through insertion of one appropriate clause in the prospectus (vide provision 4.13 of the
Annexure V of the EC regulation number 809/2004. The financial institution of a bank or any
other investment firm that is organizing as one lead manager might promote this mode of
representation directly, through election of one affiliated or 3rd party investment company as
the only delegate of the security holders who have been mandated to exercise absolute power
based on the business judgment standard with express consent of the under writers needed by
legislative decree number 58 of 1998, article number 21, co. 2. The production or the
investment decisions of the stakeholders could be constrained by directly specifying the
projects that is being undertaken by the firm. Alternatively, it the enforcement were being
costless, then for the debt contracts, the stakeholders would simply need to accept all the
projects with the positive current values. Although, the investment policy of the firms is
directly restricted by certain covenants, the debt contracts that are discussed in the
commentaries, generally do not have extensive restrictions of either of the forms (Smith and
Warner, 1979).
3.10 The inclusion of rating triggers in debt contracts
The so-called “super poison put provisions”, for example, that gained prominence in bonds
issued in late 1980s, following the RJR Nabisco buyout, contained embedded rating triggers. A
super poison put provision allows bondholders to sell their bonds to the issuing company at par
value or at a premium after the occurrence of a “designated event”
Combined with a “qualifying downgrade”. Hence, super poison put provisions can be viewed
as conditional rating triggers, conditional on a specific event or a set of events . The exact
provisions varied from issue to issue, creating uncertainty about the strength of the protection
offered in any particular bond issue. In response to this uncertainty, S&P began rating the event
risk protection of bonds with put provisions in July 1989.

51
The designs of ratings-based triggers vary, both in form and in the identity of the contracting
parties. In general, a rating trigger provides creditors and counterparties with certain rights in
the event of a borrower’s credit rating falling to, or below, a specified level. The rights given to
the creditors usually vary from an increase in the nominal coupon to a put option.
According to a recent survey by Moody’s (2001), out of 771 US corporate issuers rated Ba1 or
higher, only 12.5% reported no triggers, while the remaining 87.5% reported a total of 2,819
rating triggers.
Not only did rating triggers appear to be widely used, but situations in which a single issuer
was subject to multiple triggers were common at the time of the survey. While there are
reasons to believe that the use of such features has since declined, no comprehensive picture is
available that would help to accurately assess the current situation.
As can be seen in this table, contingency clauses are diverse in nature, and hence their
consequences, if activated, may be wide-ranging:
Collateral, L/Cs and bonding provisions are clauses that are usually written into bank loan
agreements. When the clause is triggered, the mechanism does not result in a change in the
initial financing conditions but requires the borrower to pledge assets to guarantee it’s
financing over time. Hence, the impact of the triggered clause should mainly be on the
opportunity cost of capital .
Pricing grids or adjustments in interest rates or coupons are features found both in
bonds and in bank loans where the initial interest rate or coupon is revised in the event of a
change in the borrower’s rating (or in some of its financial ratios). The impact of the exercised
trigger is a mechanical increase in the cost of capital. Acceleration clauses may have more
severe, or sometimes even critical, effects. For example, for a loan or bond initially issued for a
long period, the triggering of the clause may result in an acceleration of repayments or even
early termination of credit. As mentioned above, these types of clause are used both in bond
contracts and in bank loan agreements as well as in back-up credit lines . Not only does the
triggering of a clause result in an increase in the cost of capital, but also in an immediate need
for new capital. Two major problems associated with rating triggers are worth highlighting:
Rating triggers can contribute to “credit cliff” situations. “Credit cliff” is market jargon for a
situation in which dire consequences, i.e. compounding credit deterioration, possibly leading to
default, may be expected should certain risk scenarios materialise. In this regard, S&P has
stated that “in these cases, if there is a rating change, it will necessarily be a very substantial
change (due to) the entity’s greater sensitivity to credit quality or

52
a particular occurrence.” This can put material pressure on the company’s liquidity or its
business. For example, when downgraded, the position of a company that is performing poorly
will worsen as its cost of capital rises. Rating triggers and other covenants, particularly when
combined, can contribute to the development of such credit cliffs and may speed up the pace at
which the cost of capital increases due to credit deterioration. This is especially the case in
situations where multiple triggers are set off simultaneously, or when the triggering of one
clause leads to an accumulation of negative consequences.
It is not clear how CRAs take these situations into account. Bonds rated at the lowest
investment-grade notch (where traditionally a large proportion of these rating triggers have
been found) tend to suffer large price falls when they are downgraded . Owing to the above
mentioned risks of self-fulfilling effects, the presence of rating triggers may reinforce the
finding that rating agencies are only willing to decide on a rating action when it is unlikely to
be reversed shortly afterwards.
Disclosure of ratings-based triggers by issuers has until recently been incomplete
And largely ignored by analysts and investors. Present accounting standards leave a significant
degree of discretion as to whether triggers need to be disclosed. Under US (GAAP/FAS), UK
(FRS) and international accounting standards (IAS) there is an obligation to disclose material
triggers, but material in this context means not only that the contingent obligation is large, but
that it potentially has a significant bearing on the company’s financial situation. For instance,
these requirements do not appropriately address situations where an issuer/borrower has
included many “non-material” triggers in its debt covenants/bond issues. However, if there is
uncertainty as to whether the company is a going concern, there should be a clear obligation to
disclose. Nonetheless, it has proved difficult to obtain a comprehensive picture of the size of
the contingent liability of triggers, despite the fact that this information is crucial for investors
as well as analysts and rating agencies in order to fully apprehend the risks attached to a
specific issue or issuer .
Efforts have been made in this area, notably under pressure from rating agencies, to encourage
a more systematic disclosure of rating triggers and to renegotiate and smooth the more
dangerous ones. A survey by S&P in 2002 among more than 1,000 US and European
investment-grade debt issuers revealed that about half of these issuers were exposed to some
sort of ratings-linked contingent liability. However, fewer than 3% exhibited serious
vulnerability to rating triggers or other contingent calls on liquidity which could turn a
moderate decline in credit quality into a liquidity crisis.
3.11 The moderating role of financial interlocks on the cost of debt for firms owned by

53
controlling shareholders
Less separation between ownership and control in firms owned by controlling
shareholders has implications also for the governance of the firm. The composition of the
board of a firm with a concentrated ownership structure is more likely to represent the
expression of the controlling shareholders, who usually appoint managers and directors
among their relatives or professionals they can trust(La Porta et al.,1999; Faccio and
Lang, 2002).This results in an unbalanced representation of the interests of the different
capital suppliers on the governing body of the firm (Shleifer and Vishny, 1997). As a
consequence, the functioning of the board as a monitoring mechanism which ensures
protection for debtholders’ interests is more compromised in firms with controlling
shareholders compared to firms with dispersed ownership. Under these circumstances,
closer ties among firms and financial institutions, such as board interlocks, should act as
more effective mechanisms of control on firms’ operations. Indeed, sitting on the board
means for debt holders on the one hand the reduction of information asymmetries related to
the activities of the firms, on the other hand a direct means to decide on the same
activities that would otherwise be decided by the controlling owner-manager . This leads
us to hypothesize that the relationship between the ownership structure of the firm and the cost
of debt financing is moderated by the presence of financial representatives on the board, as
follows:
The presence of financial directors on the board moderates the positive relationship between
concentrated ownership and the cost of debt.
The implications of the presence of financial directors on the board for the cost of debt
financing could be different in the case of family owned firms . Considering the
conflicting views above mentioned, debt holders may see families as more or less
trustworthy block holders and the governance of family owned firms as more or less effective
in protecting their claims
Prencipe and Bar-Yosef (2011), for example, show that board independence in family
owned firms is not as much effective in limiting earnings management as it is in
widely held companies. In addition, Villalonga and Amit (2007) find that family ownership
is usually associated with boards composed in great majority of family members.
This entrenchment of the controlling family might suggest weaker governance and higher
expropriation risk for debt holders.
In other theoretical literature, hypothesis are also developed on how families among different
types of owners are more likely to use board interlocks and closer social ties in order to build

54
up community social capital that can be used to overcome agency related issues (Lester and
Cannella, 2006; Chua et al., 2006). Agency conflict is one phenomenon that is emerged at the
time when a company implements one funding policy related to policy leverage. The conflict
of interest is the main cause of conflict here. Researchers delineate efforts that the companies
make for controlling the agency conflicts, one among which is policy related to low leverage as
well as short debt maturity in organizations that have high opportunities of growth. On the
contrary, the companies that have low opportunities of growth are applicable for high leverage
policies with short maturity debt (Rhini, 2011).
Hence, on the one hand, financial representatives on the board of family owned firms could
significantly moderate the positive effect of family-ownership on the cost of debt. Due
to the exacerbation of the controlling shareholder moral hazard and the weaker corporate
governance, family owners might find in board interlocks with financial institutions an
effective mechanism to solve their agency issues. On the other hand, the presence of
financial directors on the board of family controlled firms may not make the difference in
the relationship between ownership structure and cost of debt financing. Due to the
peculiar nature of families as more risk adverse investors, more emotionally attached to the
business financial institutions may not find additional benefits in having a closer supervision
on their activities . Thus, it can be hypothesized in the null form that the presence of financial
directors on the board does not significantly moderate the relationship between family
concentrated ownership and the cost of debt.
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