Swiss securities laws and regulations have clearly not kept pace
with the fast development of the securities industry. Swiss
securities depositary and settlement institutions long ago shifted
to almost paperless operations. Either physical certificates
representing securities have been eliminated or the certificates
are at least held securely by a custodian or clearing house while
the transfer of the securities is effected by electronic book
entries in the owners' accounts maintained by banks and other
financial intermediaries. The book entries provide the entitlement
to the rights represented by the underlying securities.
The establishment of book-entry securities accounts and the
widespread use of global certificates instead of individual
certificates reduced handling costs and increased speed and
efficiency in the settlement of securities transactions. Individual
securities are in most cases never issued, but the terms on which
many securities are issued provide for the issue of definitive
paper certificates if they are needed to protect investors'
rights.
Legal concepts developed in practice
The electronic clearing of securities transactions is
undoubtedly desirable and it was promoted by the Swiss securities
industry, but it remains a challenge for lawyers because statutory
laws were not - and still are not - ideally suited to paperless
clearing of securities transactions. The Swiss Code of Obligations
(Obligatinen-recht) and the Swiss Civil Code
(Zivilgesetzbuch) regulate most securities law issues and
were drafted on the assumption that a physical certificate, the
Wertpapier, exists. A Wertpapier is defined in the
Code of Obligations as a physical document that is necessary and
indispensable as a proof of the holder's rights under the
securities and a prerequisite for the exercise of those rights.
Over the last 30 years or so, legal practice has developed a number
of concepts that have successfully dealt with types of securities
that originally were not suitable to hold and trade in electronic
book-entry form.
Swiss registered shares, for example, are by definition
individual securities bearing the name of the investor, that is,
they are not fungible (standardized) certificates, and so do not
allow for collective custody, which is a prerequisite of book-entry
operations. The complex legal work-around solution is based
essentially on the notion of a deferred printing of share
certificates (aufgeschobener Titeldruck). The certificates
are not normally issued in physical form. It is assumed that the
printing is just postponed and the investor has the right to
receive the certificates free of charge at any time. If the
physical certificates are issued, however, the registered shares
they represent are necessarily excluded from electronic
bookkeeping. In more recent years, this concept has been further
developed so that today the commonly accepted legal view is that
registered share certificates do not have to be issued at all if
permitted by the original articles of incorporation or a later
unanimous resolution of the shareholders.
Need for a new law
Scholars agree that these practical adaptations to modern
securities holding and settlement practices stretch the
interpretation of the statutory law provisions regulating
securities to its limits. Many participants in the Swiss securities
industry regard the complexity of the legal concepts, and the fact
that most of them have never been tested in court, as disadvantages
for Switzerland compared to other jurisdictions. In particular,
cooperation with foreign securities supervisory authorities and
handling international securities transactions became more and more
difficult as the law lagged advances in securities clearing.
Book-entry securities law
The present draft of the Federal Law on Depository and Transfer
of Book-Entry Securities (Bundesgesetz über die Verwahrung und
Übertragung von Bucheffekten; the BEG) is based on a draft made
under the private initiative of the Swiss Bankers Association and
SIS Segaintersettle AG, the Swiss central securities depositary and
settlement organization. The draft served as a starting point for a
technical working group appointed by the Federal Department of
Finance. The resulting amended draft of June 15 2004 was presented
to government groups, market participants and interested parties
for comments until the end of February 2005. The Federal Department
of Finance and the Federal Office of Justice regard the draft BEG
as a technical law that does not require general public comment at
this early stage.
Open architecture and technological neutrality
The BEG intends to create an open architecture. It will not
abolish or regulate the traditional forms of securities or
investors taking possession of physical securities or depositing
them with a bank for safekeeping. The BEG also does not alter
investors' rights in relation to the issuer of the book-entry
securities, especially those rights resulting from the registration
of registered shares in a corporation's share register. Also, the
BEG is structured in a technologically neutral way. It does not
describe current securities holding and settlement structures and
so should be flexible enough to deal with future securities holding
and settlement infrastructures.
A new type of securities
The fundamentally new book-entry securities
(Bucheffekten, titres intermediés) are the core
feature of the BEG. According to their legal definition, they
constitute transferable claims or membership rights against the
issuer that are booked on a securities account with a depositary
institution (Verwahrstelle, dépositaire) and can be
disposed of by the account holder in accordance with the provisions
of the BEG. Foreign instruments that have similar features are also
deemed book-entry securities. Book-entry securities cannot be
claimed by any other creditor of the depositary institution. In
particular, in an insolvency or liquidation procedure of the
depositary institution, its book-entry securities with another
depositary institution, any physical securities, rights
(Wertrechte, droits-valeurs) and unencumbered rights
for delivery of securities held by that depositary institution for
the investor, would be separated in favour of the respective
account holders and would not become part of the depositary
institution's bankruptcy or liquidation estate. If the book-entry
securities so separated are insufficient to cover all entitlements
of the investors (a shortfall), book-entry securities of the same
type that the bankrupt depositary institution holds in its own name
and on its own accounts will be used to satisfy the claims of
investors and creditors, even if the book-entry securities are held
in a separate securities account with the other depositary
institution.
Creating and extinguishing book-entry securities
Book-entry securities are created when: (a) securities are
deposited with a depositary institution and are credited to a
securities account; (b) a global certificate is deposited with a
depositary institution and the securities represented by the global
certificate are credited to a securities account; or (c) rights are
registered in the main register maintained by a depositary
institution and credited to a securities account.
Although rights in the sense of Wertrechte, that is,
transferable monetary or membership rights that do not qualify as
securities because there is no physical certificate (for example,
money market book claims), are known under Swiss law - the Stock
Exchange Act (Börsengesetz; loi sur les bourses) mentions them -
the term has not yet been defined in law. The BEG regulates these
rights for the first time by requiring a depositary institution to
maintain a publicly accessible main register that contains all
relevant features of the rights if the rights are to be treated as
book-entry securities.
Subject to the terms of the issue, the issuer can convert the
securities, global certificates or rights underlying the book-entry
securities into any other form (for example, create a global
certificate instead of single shares) without the investor's
permission. Also subject to the terms of issue or the articles of
incorporation, the investor has a right to receive from the issuer
physical securities in lieu of the book-entry securities for which
a global certificate was deposited or rights were registered. The
costs for such conversions are in both cases borne by the investor
if the terms of issue or the articles of incorporation do not
provide otherwise. In the latter case and in the case where
physical securities were deposited when the book-entry securities
were created, the investor can require the depositary institution
to deliver physical securities. If the physical securities are
delivered to the investor, the corresponding book-entry securities
are voided.
Depository institutions
Depository institutions as defined under the BEG can only be
banks, securities dealers, mutual funds managers (if they operate
participation accounts), recognised securities settlement and
clearing organisations, the Swiss National Bank (the Swiss central
bank), the Swiss postal service and the similar foreign
institutions if they operate securities accounts. The enumeration
of depositary institutions is exhaustive.
Depository institutions' obligations and rights
The depositary institution must at all times have securities
available that correspond to the total of book-entry securities
held in securities accounts for its clients. The securities can
also be held in the form of book-entry securities of the depositary
institution that are held in a securities account with another
depositary institution or in the form of unencumbered rights for
delivery of securities. The BEG expressly allows the depositary
institution to use the book-entry securities in its own name and
for its own account (the most likely use would be for securities
lending), provided there is an express written consent by the
investor. This consent may not be included in the general terms and
conditions of the depositary institution. Similarly, the investor
can give the depositary institution its consent to pledge (or
transfer for security purposes) book-entry securities pledged to it
by the investor. The investor has at all times the right to receive
a securities account statement from the depositary institution that
evidences the investor's holdings, but the statement is not a
security.
Delivery orders and delivery
The depositary institution may not question delivery orders
given by the investor. They become irrevocable in accordance with
the rules applicable under the relevant settlement system (for
example, the general terms and rules and regulations of SIS
Segaintersettle AG) but in any case with the debit of the
book-entry securities in the investor's security account. The
delivery itself becomes irrevocable once the book-entry securities
are credited to the acquirer's securities account. The BEG
specifically states that rules applicable to the restricted
transfer of registered shares are controlling. The draft BEG
provides elaborate rules on the cancellation of delivery
orders.
Pledges and usufruct
Book-entry securities can be pledged by a normal delivery of
book-entry securities to the pledgee or by a written agreement
between the securities account holder (pledgor) and the depositary
institution. In such an agreement, the depositary institution
agrees to execute orders received from the pledgee without the
consent or cooperation of the pledgor. A pledge in favour of the
depositary institution requires only a written agreement between
the account holder and the depositary institution.
The BEG regulates the enforcement of pledged book-entry
securities and expressly permits the so-called private sale of
securities, including the pledgor's right to purchase such
securities itself (Selbsteintritt), and to set off the
amount it has paid against the secured claim. This regulation is
possible under current law, but it must be expressly agreed in
writing. The BEG makes clear that the right of a private sale also
exists after formal bankruptcy procedures have been started against
the pledgor.
Statutory basis for legal concepts developed in
practice
The draft BEG also proposes a clear statutory basis in the Code
of Obligations for the collective custody of securities, the use of
global certificates and the creation of rights included in the
concept of Wertrechte. The provisions regarding the
collective custody of securities and the use of global certificates
reflect the current practice. The provision on rights requires the
issuer to maintain a non-public ledger where all issued rights must
be recorded to be effective. This ledger is not identical to the
main register the depositary institution must maintain if rights
are to be treated as book-entry securities. The rights are
transferred by written assignment.
International law aspects
Conflict-of-law rules
Today's conflict-of-law rules are set out in the Swiss Private
International Law Act (the PILA) and provide only limited guidance
and certainty in cases of cross-border securities transactions. For
example, if for legal or purely historical reasons one or several
physical certificates exist, their possession, ownership, transfer
and pledging would be qualified as rights in rem under the
PILA. In the cross-border context, the rule applied to rights in
rem to decide which law applies to, say, a cross-border
collateral provision is lex rei sitae, that is, the law of
the place where the securities certificates are located at the
relevant point in time. In an environment in which the physical
holding of securities is almost entirely de-linked from the
electronic book-entry form of securities holding, the
lex-rei-sitae rule makes little sense. The place of the
relevant securities can often not be determined with certainty
because securities may be deposited with various central securities
depositories. In other cases, the place where securities are held
in custody may be determinable but entirely unrelated to any legal
considerations and merely the result of the selection of the
cheapest available custodian. These and other shortcomings will be
overcome by adopting the Hague convention.
Hague Convention
The BEG project is closely linked to the Convention on the Law
Applicable to Certain Rights in Connection with Securities held
with an Intermediary (the Hague Convention) that was drafted and
negotiated in a short period of time and signed in December 2002.
It is likely to become effective soon, that is, once three
signatory states ratify or approve the Convention. The Convention
is strictly limited to conflict-of-law rules in connection with
securities held with intermediaries such as banks and securities
dealers operating safe custody accounts for their individual or
corporate clients. The core feature is the introduction of the
PRIMA, the Place of the Relevant Intermediary Approach, which
stipulates that the law applicable in the state where the
securities account is maintained should apply to determine the
nature, creation and termination of the right of securities held
through the intermediary. The relevant place of the intermediary's
account operation is in principle open to the parties' choice, but
only jurisdictions in which the relevant intermediary operates a
permanent office that performs activities in connection with the
operation of securities accounts can be chosen. In the absence of a
choice of law, the Convention uses a cascade of criteria that
should in any case allow for unambiguous determination of the law
applicable to the rights in securities held with an
intermediary.
Outlook
Switzerland was an important proponent of the Convention and its
importance for the Swiss financial market is obvious. It is
expected that it will be ratified and become effective at the same
time as the BEG - which will probably still be about three years
away - as it seems appropriate to introduce the Convention only
once sound domestic securities regulation is ready as well. It
seems likely, however, that Swiss courts will look at the draft BEG
and the Convention for guidance today.
Author
biography
Jörg A Witmer
Walder Wyss &
Partners
Jörg Witmer, partner, graduated in 1989 from the University of
St Gall, Switzerland. He was admitted to the Zurich Bar in 1991.
From 1991 until 1995 he was an in-house counsel with both SEGA and
Intersettle (now merged to SIS Segaintersettle AG, the Swiss
central securities depositary and settlement organization). Witmer
holds a LLM in corporate law from New York University Law School,
where he graduated in 1996. He received a PhD degree from the
University of St Gall in 1999 for his publication on debt
subordination (Rangrücktritt). Witmer joined Walder Wyss &
Partners in the beginning of 1997 and became a partner in 2002. He
has advised numerous domestic and foreign clients on corporate,
commercial, finance, restructuring and insolvency matters,
including regulatory issues. He also advises banks, financial
intermediaries and central securities depositories on securities
law and clearing and settlement issues. Witmer has worked on a
number of M&A transactions, IPOs of banks and financial
institutions and complex finance transactions, such as
Switzerland's first CMBS.