Secure Capital SA v Credit Suisse AG

The issue on this appeal is whether an investor with an interest in Notes issued in bearer form and held through the Clearstream system has a direct claim for breach of contract against the issuer of the Notes, in respect of an alleged breach of the misleading statements term to which I refer below.

The appellant, Secure Capital SA (Secure Capital), holds an interest in Notes issued by the respondent, Credit Suisse SA (Credit Suisse). The Notes, described as longevity notes, were linked to life insurance policies and payment on the Notes was contingent on mortality rates amongst a set of “reference lives” to which the relevant life insurance policies related.

One of the contractual documents governing the Notes, the Pricing Supplement, contained a term (the misleading statements term) as follows:

Secure Capital claimed that the information provided in the issuance documentation was misleading in that the mortality tables used to generate the estimated life expectancies were shortly to be updated in a way that would significantly increase the life expectancies, rendering the Notes effectively worthless. It alleged that Credit Suisse knew or ought to have known this but failed to disclose it in breach of the misleading statements term.

Secure Capital’s claim is based on Article 8 of Luxembourg law dated August 2001 on the circulation of securities (the 2001 Law). Secure Capital argued that, by reason of the 2001 Law, it was entitled to exercise the right of the bearer to bring an action for a breach of a term of the Notes, although it was not the bearer.

Credit Suisse contends that, as Secure Capital is not the bearer of the Notes, it is not in a contractual relationship with Credit Suisse and thus unable to maintain a claim in contract for breach of the misleading statements term. The contract constituted by the Notes is governed by English law and the 2001 Law is accordingly irrelevant.

On 11 April 2014, Secure Capital issued a claim form, claiming damages for breach of contract against Credit Suisse, and served particulars of claim. Credit Suisse applied to strike out the particulars of claim as disclosing no reasonable grounds for bringing the claim or for summary judgment on the claim as disclosing no real prospect of success. By an order dated 24 February 2015, Hamblen J (as he then was) granted Credit Suisse summary judgment on the claim. This appeal is brought with permission granted by Underhill LJ on a renewed oral application for permission to appeal, the judge and Tomlinson LJ having refused permission.

Clearstream, like Euroclear based in Belgium, operates an electronic trading system for interests in securities. It is established in Luxembourg and operates under Luxembourg law.

Typically, as in this case, the securities are represented by a bearer note that is physically held on a permanent basis by a custodian. In this way, the note is said to be “immobilised”. It is not the bearer note, but interests in the note, that are traded through the Clearstream system. This is achieved through a descending succession of interests. The custodian holds the note for the Clearstream system. Clearstream maintains accounts for members (banks and others) which hold and deal in interests in securities as Account Holders. Each Account Holder’s interests in securities at any time are recorded by Clearstream. The interests are fungible and are traded between Account Holders through electronic book entries. Account Holders may hold interests for themselves as principal or to the order of their customers (Account Owners).

The system operates on the basis of a “no look through” principle, whereby each party has rights only against their own counterparty. Payments of sums due on the securities are made by the issuer or other payer to Clearstream which then makes payment to the Account Holders in respect of their recorded interests. The Account Holders pass on the appropriate sums to their Account Owners.

Typically, as in the present case, Account Holders will become entitled to a direct interest in notes only if there has been default in the payment of principal due on the notes or if Clearstream were closed permanently or for a continuous period of 14 days.

The claim brought by Secure Capital relates to eight Notes issued by Credit Suisse (the Notes). They were issued in July and August 2008 and for the purposes of the application heard by Hamblen J and the appeal, they have been treated as in materially identical terms so far as relevant to the issues in dispute. Prior to issue, Prometeo Investment Services SA agreed to acquire, through Clearstream, the entire interest in the Notes. It is Secure Capital’s case that RBS Global Banking (Luxembourg) SA (RBSL) acquired Prometeo’s interest and that RBSL holds its interest in the Clearstream system as Account Holder for Secure Capital.

Each Note is represented by a single Permanent Global Security (PGS) which states that it is “a bearer document and negotiable accordingly”. It is stated to be transferable by delivery “and such transfer shall operate to confer upon the transferee all rights and benefits appertaining hereto…”. The PGS is governed by English law.

The PGS is deposited with Bank of New York Mellon (“BNYM”) as common depositary. It is common ground that BNYM is the bearer of the Notes which it holds on behalf of Clearstream.

Secure Capital’s interest in the Notes is held by it as an Account Owner with RBSL as the Account Holder.

The Notes are subject to the Conditions, defined to comprise the Programme Memorandum, the Product Supplement and the Pricing Schedule.

The Programme Memorandum is a set of standard terms for securities to be issued by Credit Suisse, which was issued about two years before the Notes. It stated, so far as relevant, that each security or series of securities to be issued in bearer form would be represented by a PGS to be held by a common depositary for Clearstream, Euroclear or another agreed clearing system. Title would pass by delivery of the PGS. The holder would “be deemed to be and may be treated as its absolute owner for all purposes”. Each person shown in the records of Clearstream must look solely to Clearstream “for his share of each payment made by the Bank and in relation to all other rights arising under the Global Securities, subject to and in accordance with the respective rules and procedures of … Clearstream”. The Programme Memorandum expressly provided that no person would have any right to enforce any term or condition of the securities under the Contracts (Rights of Third Parties) Act 1999 except and to the extent (if any) that the securities expressly provide otherwise. Securities were to be governed by English law and Credit Suisse agreed to the jurisdiction of the English courts for the exclusive benefit of the holders of securities.

The Notes are supported by an agency agreement between Credit Suisse and JPMorgan entities dated 2 August 2006, and a Deed of Covenant by Credit Suisse on the same date. The Deed of Covenant provides that in the event of non-payment of principal, an Account Holder with interests in the Notes acquires direct rights against Credit Suisse as if it had been the bearer of the Notes, including but not limited to the right to receive all payments due on the Notes.

The 2001 Law applies to settlements under the Clearstream system. The unchallenged expert evidence on Luxembourg law adduced by Secure Capital was that the purpose of the 2001 Law was to provide that, in the case of immobilised securities, the security interest holder should not be in a worse position because it holds an interest in the securities rather than holding the securities themselves.

Article 3 provides for an Account Owner (Secure Capital in this case) to have an intangible right in rem, up to the number of securities registered in his custody account, to the securities of that type held by the Account Holder and to the rights attached to those securities but “subject to any legal provisions to the contrary, he may only assert his rights with the relevant account holder”, which in this case is RBSL. This preserves the fundamental no look through principle.

Secure Capital seeks to rely on Article 8(1) of the 2001 law which provides:

Secure Capital contends that, while article 8 did not apply to the issuer’s obligations for the payment of principal and interest on securities and so did not in that respect contradict the “no look through” principle, it does entitle account owners to exercise other rights (for example, voting rights) attached to notes and to bring legal proceedings against the issuer for breach of any terms governing the Notes, other than payment terms.

The judge recorded that Credit Suisse questioned whether article 8 had this effect but it did not adduce any expert evidence on Luxembourg Law. The judge therefore proceeded on the basis that it had the effect for which Secure Capital contended “and that it does seek to confer ‘rights attaching to the holding of the securities linked to the possession of the securities’ which may be enforced by the investor against the issuer”. The judge therefore assumed that under Luxembourg law Secure Capital could sue Credit Suisse for damages for breach of the misleading statement term.

The only claim made in the claim form issued by Secure Capital is for damages “for breach of contract”. No claim is made in tort or under statute. The particulars of claim assert that “in breach of the express terms of the Notes, Credit Suisse failed to ensure that it had disclosed material facts. As a result, Secure Capital is entitled to damages.” By reason of article 8, it was entitled “to exercise the right of the bearer to bring an action for a breach of a term of the Coupon Notes.” But for the breach, Secure Capital would not have purchased its interests in the Notes and it claims damages accordingly.

Credit Suisse applied to strike out the particulars of claim or for summary judgment on the basis, shortly stated, that Secure Capital was claiming for breach of a contract to which it was not a party. The contract was governed by English law, not Luxembourg law, and whatever the effect of article 8 as a matter of Luxembourg law, it could not confer on a non-party a right to sue on the contract.

The judge identified the applicable law, and in particular whether Secure Capital was entitled to rely on Luxembourg law, as the fundamental issue that arose.

He cited the following passage from the judgment of Mance LJ in Raiffeisen Zantralbank Osterreich v Five Star Trading [2001] QB 825 at 840, as setting out the applicable principles to be followed when determining the applicable law:

Secure Capital’s claim was pleaded exclusively as a claim for breach of contract. The judge considered that the true issue was whether Secure Capital could claim damages for breach of the misleading statements term, which was a contractual term. The claim involved the assertion of contractual rights and the breach of a contractual term, said to be enforceable by Secure Capital. The existence of contractual duties and the right of a party to sue on a contract are contractual questions. In the judge’s view, the issue in the case was clearly to be characterised as contractual and Secure Capital’s arguments to the contrary were “inconsistent and to a significant extent legally incoherent”.

The judge noted the development of the claim advanced by Secure Capital. In proceedings issued in 2013, it asserted that it was the bearer of the Notes. This was not pursued after it was asked to produce the Notes, which were of course held by BNYM. In the particulars of claim in the present proceedings, it asserts the right of the bearer to bring a claim for breach of the terms of the Notes. This was a type of derivative claim on behalf of BNYM but the claim was for damages suffered by Secure Capital, not BNYM. At the hearing before Hamblen J, Secure Capital argued that it was entitled to exercise the rights of a bearer of the Notes. As explained in oral argument, BNYM retained its rights of action but the 2001 law created “a new, parallel but independent right of action as bearer in favour of the investors (however many there may be) against the issuer in respect of any breaches of the terms of the Notes”.

Earlier assertions made in correspondence that Secure Capital was advancing a proprietary claim were abandoned. At the hearing before the judge, its entitlement to be treated as a bearer was neither contractual nor proprietary but was “a novel situation which did not fit existing characterisations and was sui generis”. Its entitlement to enforce rights under the Notes was to be distinguished from the content of the rights and should be governed by the lex situs, being the law applicable to whether or not a person is entitled to be treated as a bearer of a note.

The judge took the view that “none of these arguments satisfactorily explain why the ‘true issue’ is not one of contract or, if it is not, what it is and why”. Seeking to re-describe the issue in non-contractual terms did not alter the true nature of the issue. The question was not the identity of the holder of the Notes – this was unquestionably BNYM – but whether Secure Capital was entitled to be treated as an additional holder so as to be able to sue on the Notes for its own loss.

He cited from Dicey, Morris & Collins: The Conflicts of Laws (15^th ed.) at 33-388, 389:

Having determined that the issue was correctly characterised as contractual, the judge held that it was to be decided according to English law as the proper law of the contract. Further, however the issue was characterised, “given that it involves the enforcement of rights against Credit Suisse under Notes governed by English law it is difficult to see how the appropriate law can be other than English law”.

Under English law, the obligations of the issuer were owed to, and only to, the bearer, in this case BNYM. At [56] the judge said that there was no scope in this contractual analysis for the introduction of foreign law:

It followed that the 2001 Law was irrelevant and could not found Secure Capital’s claim against Credit Suisse.

The judge considered the works of notable academic and industry commentators which were unanimous in their view that, in the case of immobilised securities, the ultimate investor does not have a cause of action directly against the issuer, unless otherwise provided by the terms of the Notes and ancillary documents. While Secure Capital did not dispute these general statements, it submitted that they were confined to the performance of payment obligations. However, the judge pointed out that a failure to pay was itself a breach of contract, just as much as any other breach, and the general importance of separating interests applies equally to all claims for breach of contract.

In its skeleton argument for this appeal, Secure Capital submitted that the judge was wrong to characterise the issue as contractual. It contended that the issue is “who is entitled to sue on a bearer note which is held in an immobilised settlement system”. It submitted that this issue is sui generis and should be answered by reference to a new conflicts rule, which identifies the law of the settlement system (in this case, Luxembourg law) as the applicable law. This was the most appropriate law.

Secure Capital pointed out that Credit Suisse, as the issuer, chose to use Clearstream as the settlement system and account holders and account owners invest in the Notes through that system. It is logical that the law applicable to that system should apply to the rights and obligations between investors and Credit Suisse, particularly where the law makes specific provision in that respect, as in the 2001 Law. At the same time, Secure Capital accepted that, by reason of the overriding “no look through” principle, only the bearer of the Notes could sue for the payment of principal and interest (save where the terms of the Notes made contrary provision), but that principle was confined to those monetary obligations. It did not affect a claim for breach of other terms, such as the misleading statements term.

Secure Capital argued that the judge’s decision resulted in a lacuna. The effect was that the only person who could sue for breach of the misleading statements term was BNYM as custodian and holder of the Notes, which had suffered no loss from the breach, while the persons which had suffered loss could not sue for breach. It followed that Credit Suisse was immune from a claim for breach of the term. These were “grave consequences” that pointed to the law of the settlement system as the appropriate law.

Secure Capital did not deny the importance of English law as the governing law of the Notes, but its relevance was to determine the meaning and effect of the terms of the Notes, while Luxembourg law as the law of the settlement system would determine who could sue for breach of those terms. As it was put in the skeleton argument, the law applicable to the contract governs the content of the right to sue but “the integrity of the system requires that the right to sue exists or does not exist where the system demands”.

Secure Capital submitted that its approach “reflects the commercial realities, and how the security interests function in practice”. The settlement system was not intended to make security interest holders worse off than if they were bearers of the Notes. Their rights were created under and governed entirely by the settlement system. Further, choice of the law of the settlements system would meet the needs of certainty.

Without abandoning the case as formulated in the skeleton argument, counsel for Secure Capital developed a further submission, not previously put forward, that the right of a security interest holder to bring a claim against Credit Suisse under the 2001 Law was incorporated into the contract constituted by the Notes and related documents. It was submitted that this arose by virtue of the following provision in the Programme Memorandum:

It was submitted that the emphasised words had the effect of incorporating substantive rules of Luxembourg law, including Article 8(1) of the 2001 Law.

I will start with the submissions made by Secure Capital in its skeleton argument. Insofar as these repeat the case argued before Hamblen J, they were in my judgment rightly rejected by the judge for the reasons he gave.

Under English conflicts of law principles, the identification of the parties entitled to sue on a contract is governed by the proper law of the contract. In this case, the proper law is, by the express terms governing the Notes, English law. Hamblen J cited the statement of Bowen LJ in Picker v The London and County Banking Co (1887) 18 QBD 515 at 519 that “[a]mong the rights which are ordinarily created by such instruments is the right of suing upon the contract therein contained”.

The rights of parties to sue Credit Suisse on the contract constituted by the Notes and the relevant documents are clearly set out in those documents.

The only party entitled to sue is the holder of the Notes represented by the PGS, ie BNYM, unless one of a limited number of specified events has occurred. The obligations of Credit Suisse are owed to the bearer for the time being of the PGS. The Programme Memorandum provides that the holder would “be deemed to be and may be treated as its absolute owner for all purposes” (emphasis added). The persons shown in the records of Clearstream (ie the Account Holders, not Account Owners) must look solely to Clearstream “for his share of each payment made by the Bank and in relation to all other rights arising under the Global Securities” (emphasis added). This is, as Secure Capital accepts, the no look through provision which is fundamental to the workings of the settlement systems in interests in immobilised securities. Secure Capital’s submission that it is limited in its effect to payment obligations is incompatible with the emphasised words. This provision is concerned with the rights of an Account Holder, which in the present case was RBSL. It would be eccentric to suggest that Account Holders, who may hold interests on their own account, must look only to Clearstream or other settlement system but Account Owners, who are even more removed from the underlying Notes, are not so constrained.

The general position, that only the holder of the Notes enjoys enforceable rights against Credit Suisse, is further made clear by the provisions that, in limited circumstances, enable parties to proceed directly against Credit Suisse.

If principal in respect of any Notes was not paid when due, the PGS could be exchanged for definitive securities which could then be distributed among those with interests in the Notes, creating a direct relationship with Credit Suisse and enabling the holders to sue Credit Suisse directly.

Additionally, clause 2.1 of the Deed of Covenant provided that, on the giving of notice in the event of default in the payment of principal, each Account Holder with interests in the Notes would “acquire against the Bank all rights (“Direct Rights”) that it would have had if, immediately before each such Acquisition Time, it had been the holder of the Original Securities”. This is expressed to include “without limitation” the right to receive all payments due at any time on the Notes. The effect is again to create rights in favour of Account Holders (but not Account Owners) that are directly enforceable against Credit Suisse. This latter point is made expressly clear by clause 4.2 of the Deed which provides that each relevant Account Holder “is entitled to receive payment of the amount due in respect of each of its Entries and of all other sums referable to its Direct Rights to the exclusion of any other person”.

For good measure, paragraph 16 of the General Terms and Conditions excluded the effect of the Contracts (Rights of Third Parties) Act 1999.

The overall effect of these express provisions is clear. The only party with a right to sue Credit Suisse is BNYM as holder of the Notes, unless there is default in the payment of principal on the Notes, in which event Account Holders may acquire directly enforceable rights against Credit Suisse.

If the issue in the case is correctly characterised as contractual, both general principles of English law and the express provisions governing the Notes leave no room for anyone other than BNYM to have directly enforceable contractual rights against Credit Suisse, unless there is default in the payment of principal (which has not in this case occurred).

It was to avoid this insuperable obstacle that Secure Capital submitted that exceptionally in the case of immobilised securities a new and different characterisation was needed, fixing the law of the settlement system as the appropriate law to determine the parties entitled to sue on the Notes, although leaving the content of the rights under the Notes to be determined in accordance with English law as their express governing law. Because this was a novel situation, there was no authority on which Secure Capital could rely for this bifurcation of proper laws.

I have struggled, unsuccessfully, to understand the principle that could justify this approach. In the case of immobilised securities, Clearstream and other settlement systems exist to facilitate efficient trading in interests in securities, not in the securities themselves. The fact that security issues are organised in this way so as to facilitate such trading is nothing to the point. Participants in the market know that they are trading in interests, not in the underlying securities. They are interests in contractual arrangements constituted by the Notes and ancillary documents. The documents expressly provide for English law to be the proper law and expressly identify the parties who may either generally or in limited circumstances sue for breach of the terms of the Notes. Those provisions are as much part of the package of rights as the payment terms and any other terms of the Notes. Market participants trade in interests in that total package of rights.

The only justification advanced by Secure Capital is that, unless the law of the settlement system is identified as the proper law, there will be no-one able to recover substantial damages in contract for breach of the misleading statements term, thus creating a lacuna and conferring immunity on Credit Suisse as the issuer. I emphasise “in contract” because it is not suggested that a claim in tort, if sustainable, would be similarly barred.

A lacuna cannot in any relevant sense be said to exist if it is precisely the consequence of the express terms of the Notes and ancillary documents. There is no reason to suppose that this was an unintended consequence and, indeed, the clear and detailed provisions make clear that this consequence was intended. If it had been intended that Account Holders or Account Owners or others with even more remote interests should be entitled to sue Credit Suisse in contract for breach of the misleading statements term, the documents could and would surely have so provided. It was a matter for Secure Capital whether it traded in interests in securities having these features.

Secure Capital proposes its novel conflicts rule for immobilised securities because Luxembourg law happens to contain, in article 8 of the 2001 Law, a provision which (it is assumed only for the purposes of the present application and appeal) would confer a direct right of action on Secure Capital as an Account Owner. But if its proposed conflicts rule were accepted, it would necessarily make the laws of another country apply where the interests were held through a settlement system located in and governed by the laws of that country; for example, Belgian law in the case of Euroclear or New York law in the case of the Depositary Trust Company. Interests in the Notes are or were themselves traded on Euroclear as well as Clearstream and could be traded across the two systems. There is no evidence on whether Belgian or New York law contain provisions similar to the 2001 Law, but it is entirely feasible that they do not. Secure Capital’s case could therefore produce an incoherent, if not chaotic, result. Whether Credit Suisse and other issuers would be exposed to direct claims would depend on the system in which the claimant’s interests were held. This would damage both certainty and consistency for a reason that might be little more than happenstance.

Secure Capital submitted that its approach accorded with commercial realities and expectations and with the nature of an immobilised bearer security and the manner in which it is intended to function in practice. This assertion is unsupported by evidence or academic or other literature. It is contradicted by the extensive literature to which the judge referred in his judgment at [58], which emphasises that the purpose of immobilised securities is to prevent a direct link between investors and the issuer. It is apparent from the literature that market participants operate on this basis. It is noteworthy that the International Capital Market Association recommended that market contracts governed by English law should adopt as standard the exclusion of the Contracts (Rights of Third Parties) Act 1999 “on the basis that the legal structure of the rights arising from the transaction documentation…is effective, certain and generally accepted in the market”.

For all these reasons, I consider that the principal case advanced by Secure Capital, based on the adoption of a new conflicts rule, is unsustainable. The alternative formulation contained in its skeleton argument, that the issue should be characterised as “who is entitled to sue as a bearer under a note in an immobilised note system”, is little more than a re-formulation of the same case. It was not separately developed in written or oral submissions and it fails for many of the same reasons.

The submission that the article 8 of the 2001 Law was incorporated into the terms governing the Notes was, as I mentioned earlier, made for the first time in oral argument on the appeal. It had not been considered by the judge and Secure Capital did not have permission to appeal on that ground. However, it is a submission that Mr Beltrami QC was able to respond to and that can be dealt by this court. In the interests of certainty, I think this court should deal with it.

It would be possible for a contract governed by English law to incorporate a provision of a foreign law conferring on a non-party a right of action for breach of the contract against one of the contracting parties. The provision on which Mr Cox QC relied for this purpose was that set out in paragraph [42] above. He relied on the words italicised in the quotation, incorporating the “rules and procedures of…Clearstream”. These words, he submitted, extended to include substantive provisions of Luxembourg law.

I reject this submission. First, the “rules and procedures of…Clearstream” do not on a natural reading include Luxembourg law. Second, the context overwhelmingly suggests that they do not do so, particularly if the effect would be to create direct claims by holders of security interests against Credit Suisse. Their effect would be to nullify all the other provisions in the governing documents referred to above, which emphasise that only the bearer can claim against Credit Suisse, subject to well-defined exceptions, and would run counter to well-established market practice. It would be inconsistent with the exclusion of the Contracts (Rights of Third Parties) Act 1999. Third, against this background, if the intention had nonetheless been to incorporate a right of action conferred by article 8, clear words to this effect would have been used. Fourth, in any event, the provision in question is concerned with the rights of Account Holders such as RBSL, and not with Account Owners such as Secure Capital.

For these reasons, I would dismiss the appeal.

I agree.

I also agree.