No contractual recourse against issuer for investor in bearer notes
18 October 2017
Secure Capital SA v Credit Suisse AG  EWHC 388 (Comm), 24 February 2015 and  EWCA Civ 1486, 6 October 2017
An investor in longevity notes had no right of recourse against the issuer for breach of contract as the notes were in bearer form, and were held by a common depositary. The Court of Appeal confirmed that the claim was of a purely contractual nature and therefore English law, not Luxembourg law, governed whether or not there was a right of action against the issuer. The investor had no contractual relationship with the issuer and its claim therefore failed.
The claim related to eight longevity notes (the Notes) issued by Credit Suisse in 2008. The Notes were linked to life insurance policies, which meant that the prospect of the holder receiving payments for the Notes depended on mortality rates among a set of "reference lives".
Secure Capital contended that Credit Suisse failed to disclose that the mortality tables used to generate the estimated life expectancies were shortly to be updated in a way that would significantly increase life expectancies, rendering the Notes effectively worthless.
Secure Capital relied on a term in the issuance documentation that stated that Credit Suisse had taken all reasonable care to ensure that information provided in such documentation was accurate and that there were no material facts the omission of which would make any statements contained in those documents misleading (referred to as the Misleading Statements Term).
Note issuance structure
The Notes were issued by Credit Suisse's Nassau branch. Under the terms of the transaction documents, the Notes were deposited with the common depositary, Bank of New York Mellon, which held the securities on behalf of the clearing system, in this case Clearstream.
The Notes were governed by English law and issued in bearer form. This meant that the common depositary, as bearer of the physical Notes, was the only contractual counterparty of Credit Suisse. In addition, the Notes were issued under a fiscal agency structure, which meant that there was no trustee and the ultimate investor, the noteholder, was only afforded direct rights against the issuer (pursuant to a deed of covenant) in certain limited circumstances which were not present in this case.
The Notes were purchased from Credit Suisse by a third party which then on-sold them to Secure Capital.
Secure Capital's claim
Secure Capital alleged (after first discontinuing a claim in which it incorrectly pleaded it was the bearer of the Notes) that the provisions of a 2001 Luxembourg law on the Circulation of Securities, being the law that governed the operation of Clearstream through which the Notes were held, gave it an entitlement "to exercise the right of the bearer to bring an action for breach of a term of the…Notes". In order to succeed, Secure Capital would have to circumvent the English law on privity of contract in respect of a transaction governed by English law.
A contractual claim
Hamblen J accepted Credit Suisse's submission that the existence of contractual duties and the right of a party to sue upon a contract are contractual questions and accordingly characterised the issue to be determined as contractual. The issue was whether Secure Capital could claim damages against Credit Suisse for breach of the Misleading Statements Term. This was a contractual term and Secure Capital's entitlement to claim damages for breach of the term involved the assertion of contractual rights. Secure Capital would have to show that Credit Suisse owed it a contractual duty.
Applicable law for a contractual claim – the chosen governing law (English)
Under both the Rome Convention (and Rome I, which applies to contracts concluded on or after 17 December 2009) and English common law principles, contractual issues are to be determined by the governing law chosen by the parties, in this case English law. Hamblen J found that, under English law, the obligations of Credit Suisse were owed only to the bearer of the Notes. As there was no contractual relationship between Secure Capital and Credit Suisse, and as Luxembourg law was irrelevant, the claim failed. Hamblen noted that a "foreign law cannot (even if purported to do so) create new contractual obligations in an English law contract".
Hamblen J rejected Secure Capital’s arguments that its entitlement to be treated as the bearer was neither contractual nor possessory but rather sui generis. It had argued that its entitlement to enforce such a right should be distinguished from the content of the right and should be governed by the lex situs. In rejecting this argument, Hamblen J stated that the lex situs was not relevant as the dispute before him was not one between two parties claiming entitlement to be the bearer.
Court of Appeal
The court agreed with Hamblen J's characterisation of the issue as contractual in nature – the claim involved the assertion of contractual rights and the alleged breach of a contractual term. The existence of contractual duties and the right of the party to sue on a contract are contractual questions. Under English law, the issuer owed obligations to the bearer and the bearer alone. Accordingly, the court confirmed that the only party with the right to sue Credit Suisse was the custodian.
Among Secure Capital's additional arguments was the suggestion that there would be a lacuna if an ultimate investor could not sue the issuer. The court maintained that there could be no such lacuna if it was precisely the consequence of the express terms of the notes and the ancillary documents. Secure Capital's case could "produce an incoherent, if not chaotic, result".
The decision of both courts represents a common-sense approach to a note issuance structure that is commonly used in the debt capital markets. It will provide comfort to issuers who actively adopt such structures rather than forging a contractual link between themselves and the ultimate investor, a market practice both Hamblen J and the Court of Appeal were alive to after considering numerous leading commentaries on the operation of the capital markets.
The decision shows that the courts will take a dim view of claimants trying to circumvent express contractual provisions, however creative their attempts to characterise a claim in a manner that purports to let them do so. Nevertheless, for transactional lawyers, it highlights the importance of structuring a transaction in a way which makes clear the scope of the parties' obligations, to contractual counterparties or otherwise.
In Secure Capital, the courts have been robust in their approach towards characterisation, preserving the certainty generated by conflicts of law principles, even though this meant that the only party who had allegedly suffered loss, Secure Capital, could not bring a claim.
Allen & Overy LLP acted for Credit Suisse in this matter.
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