Another reason to avoid mortgages over shares in English companies - 19 January 2010
Those who are familiar with this subject will recall that, although "pledges" of shares are commonly talked about, the two correct forms of security over shares in English companies are (a) share mortgages and (b) share charges. In the case of share mortgages, the bank (or its nominee) is registered as holder of the shares from the outset. In the case of share charges, the chargor remains the registered shareholder but the bank holds the share certificates and undated instuments of transfer. There are similar arrangements in the case of uncertificated securities. Share mortgages are considered to be the most robust form of security but share charges are generally preferred because of various concerns arising from the bank or its nominee becoming the registered owner.
New Case
In the recent case of Enviroco Ltd v Farstad Supply A/S [2009] EWCA Civ 1399, the Court of Appeal has held that, as a result of a holding company's mortgage to a bank of shares in its subsidiary, the subsidiary ceased to be a subsidiary within the meaning of Section 736 and 736A of the Companies Act 1989 (now replicated by Section 1159 of the Companies Act 2006).
Comment
This case, in fact, related to the interpretation of certain provisions in a charterparty. The ruling has implications for any contract which defines concepts like "subsidiary", "affiliate", "group" and "holding company" by reference to the relevant sections of the English Companies Acts. Provisions that typically turn on such definitions include change of control provisions, rights to assign to other group companies and, as in the case of Enviroco, indemnities which benefit other group companies. So, for example, an indemnity in favour of an affililate will not benefit a subsidiary whose shares have been mortgaged.
Finance lawyers will also be concerned about the effect of this decision where a subsidiary becomes detached from the group - for example, the treatment of financial covenants, "change of control" representations, undertakings and default triggers.
Conclusion
For banking lawyers, this case provides yet another reason why banks (and borrowers) should opt for a share charge rather than a share mortgage. Contract lawyers should think carefully about defining expressions like "subsidiary" and "affiliate" by reference to the Companies Acts.
NOTE: It is understood that this decision may be appealed to the new Supreme Court (the House of Lords as was). Watch this space!!
By Tim Walker, Head of Banking and Asset Finance, Rickerbys LLP |
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