Share Certificates – how safe are yours?
Share Certificates safeguarding, is it important? What happens if a share certificate goes missing or gets damaged? If a certificate is lost does this means ownership is too? What constitutes ownership of a private company under English law?
From a legal perspective it is clear that for registered shares, the company’s register is the definitive record of ownership and share certificates are issued only for evidentiary purposes. However, from a regulatory perspective, if an investment is held on behalf of a venture or private equity fund, which is the fund manager’s client, it must treat the share certificate as a ‘client asset’ – which therefore needs to be properly safeguarded.
There are a number of approaches to making sure that this is being undertaken correctly. The most thorough would be for the fund manager to get the regulated permission of “Safeguarding and Administration of Assets” which would allow it to provide custody for its client’s assets, but this comes with significant obligations including the need to adopt stringent operating procedures and comply with strict reporting requirements.
As a result of AIFMD, it became possible for a fund manager (as the regulated AIFM) to hold the fund’s assets without needing any separate safeguarding and administration permission, but if the AIFM is holding certificates it will be subject to compliance and reporting requirements under CASS 6, therefore, it will also need to adopt demanding procedures and adhere to robust reporting requirements.
Who controls the Share Certificates?
Historically, and in some instances, this is still the case, the general partner (‘GP’) of a limited partnership will hold the share certificates for the fund’s investments. Since an English partnership has no separate legal personality, the GP, as a partner can hold the shares in its own name, on behalf of the partnership. The logic is that it is holding its own certificates in its capacity as a partner in a limited partnership, not as a third party on behalf of a client, hence no “safekeeping” from a regulatory perspective arises. Where this method is used, the GP must be able to clearly demonstrate that, although it may share facilities and an office with the fund manager, it is the GP that holds and controls the certificates. This approach reflects market practice but is potentially open to question, and may be hard to evidence in practice.
Appoint a Custodian?
As an alternative, a fund manager can appoint a regulated custodian, under a formal custody agreement to undertake the safeguarding and administering of the assets. The custodian will usually hold the assets of the fund through its nominee company and will be responsible for all CASS obligations. However, in order to appoint a custodian, a fund manager would need the FCA permission “Arranging Safeguarding and Administration of Assets”. In practice, it is rare for a fund to use a custodian to hold its assets in unlisted private companies (although it is more common for a custodian to be appointed to hold listed assets).
A different approach might be to appoint a third party to ‘safeguard’ the share certificates on behalf of the GP. Where ‘safeguarding’ is offered separately from ‘administration’ no regulated activity occurs. In this context, administration involves activities such as arranging settlement, monitoring and processing corporate actions or being the named owner of the asset – none of which apply in this situation. What is more, the Regulated Activities Order 43 of FSMA specifically exempts certain activities from being considered ‘administration’ from a regulatory perspective. This excludes, for example, the reporting of the number or value of units, or where a party is receiving certificates solely for onward transmission on behalf of the legal and beneficial owner.
How can Mainspring help? Mainspring is a private equity fund administrator and can act either as the custodian for the fund, through its regulated custodian, Mainspring Nominees Limited, which would hold the certificates in the name of Mainspring’s nominee company, on behalf of the fund. Alternatively, Mainspring can provide a robust safeguarding service, where it holds certificates on behalf of the fund. Mainspring provides a related reporting and transmission service, providing a high level of confidence for the fund, the GP, the fund manager and the investors that the fund’s assets are secure.