The requirement for non-exempt UK companies and LLPs to maintain a PSC Register went live on 6 April this year (this article just looks at companies). Since then, lenders have been looking at potential traps in the legislation. Two of the key problems facing lenders are: (1) the risk that they might themselves be identified as a person with significant control or influence (a “PSC”) in relation to a corporate borrower or other obligor and (2) the impact on share security granted by a shareholder who is not PSC compliant.
A brief recap…
Triggers: Every non-exempt company must maintain a PSC Register which identifies all individuals and other relevant entities that have “significant control” of it. The “significant control” test is satisfied if the person meets one or more of the following conditions:
Condition 1: It holds, directly or indirectly, more than 25% of shares in the company.
Condition 2: It holds, directly or indirectly, more than 25% of voting rights in the company.
Condition 3: It holds the right, directly or indirectly, to appoint or remove a majority of the company’s directors.
Condition 4: It has the right to exercise or actually exercises significant influence or control of the company. (The Government has indicated that “control’’ means the ability to direct policies or activities, for example by vetoing board decisions, whilst ‘’significant influence’’ means an ability to ensure that the company adopts certain policies or activities.)
Condition 5: It has the right to exercise or actually exercises significant influence or control over a trust or firm that is not a legal entity but which would itself satisfy any of the conditions 1 to 4 above if it were an individual.
Exceptions: Some roles are “excepted roles” which are treated as not, of themselves, giving rise to a PSC relationship. One of those relates to lenders under a third-party financing. What is unclear is what happens if a lender has a level of control over a borrower company which goes beyond what a court might see as a standard bank/borrower relationship (as discussed below).
Who appears on the Register? Only individuals or relevant legal entities (broadly, entities with their own PSC register or which are listed on regulated markets or are subject to DTR5) can be listed on the Register as PSCs. In other words, a company trying to compile its PSC Register must investigate its ownership chain until it discovers a registerable individual or relevant legal entity. Some companies find the exercise straightforward but others may hit a brick wall. In practice, companies that are owned more than 75% by another UK company usually only need to look to their shareholder, and it is sometimes often only the top UK company in the group that needs to carry out more detailed investigations.
How hard do you have to try?
Each non-exempt company has a duty to take reasonable steps to identify its PSCs. Failure to take reasonable steps is a criminal offence. There is no definitive description of what counts as “reasonable” but a company will be expected to consider all documentation available to it and to follow up any leads.
The company must serve notice on persons it knows or reasonably suspects are PSCs asking about their relationship with the company. If a potential PSC is served with a notice but fails to give the required information within one month, then the company can serve a further notice warning of its intention to serve a restrictions notice (the various forms of notice are set out in the Government’s non-statutory guidance).
Restrictions notices: If a restrictions notice is served, the relevant shares owned by the suspected PSC are frozen until such time as (1) that person divulges the requested information or comes up with a valid excuse not to, (2) a court order is obtained or (3) the restrictions are shown to be unfairly affecting a third party’s rights. A restrictions notice means that any transfers of the shares are void, any rights attaching to the shares cannot be exercised and no dividends can be paid on the shares other than in a liquidation.
There is no legal obligation on a company to serve a warning notice or restrictions notice but if it fails to do so when circumstances would seem to warrant it, then that could be interpreted as a failure to use “reasonable efforts”.
Is serving a notice enough? Merely serving notices won’t, of itself, protect the company from potential action – it has to continue using reasonable efforts to extract the required information. The Register can’t be left blank while the company works out what to do – the Register either has to state that there are no PSCs or list the PSCs or give the status of on-going investigations, using prescribed wording.
What about PSCs? PSCs are themselves subject to obligations – anyone who knows or who ought reasonably to know that they are registerable as a PSC or that the Register needs updating must self-report to the company concerned.
Failure to do so is a criminal offence. Failure to respond to a PSC notice submitted by the relevant company within one month is also a criminal offence.
What’s the impact on lenders?
Lenders may find that they are in a PSC relationship with the companies they lend to and therefore subject to the obligations mentioned above or that their share security is affected by a restrictions notice.
Share security: A lender could find that it has become a PSC under Conditions 1 or 2 above where it has taken security over shares in a UK company. If the mortgage is a legal mortgage, where title to the shares is transferred to a bank nominee on day one, then that could trigger either Condition, bearing in mind that share mortgages invariably mortgage not only the shares but also the voting and other rights that go with them.
An equitable mortgage, where the company granting the security keeps legal title to the shares until an Event of Default or some other triggering event, could also trigger Conditions 1 or 2 either upon enforcement (when legal title to the shares is transferred to the lender) or earlier, if the mortgage document allows the lender to direct voting rights.
Is there a carve-out? Fortunately, a Companies Act carve-out provides that secured shares will, for PSC purposes, be treated as being held by the security-provider if, before a default, the lender has to exercise the rights relating to those shares in the shareholder’s interests. This means that most equitable share mortgages will not result in the lender being in a PSC relationship. Share security typically provides that voting rights stay with the security-provider (at least, initially).
No general carve-out: However, if the Government intended to create a general carve-out for share security, then it failed. A legal mortgage of more than 25% of the shares in a company will always trigger Condition 1, even if the mortgage document provides (as is often the case with legal mortgages) that the lender has to exercise voting rights in the security-provider’s interests until an Event of Default occurs.
String-pulling? A lender could also find itself in a PSC relationship because it has triggered one of the other Conditions, even where there is no share security. Condition 4 is a potential trap because many facility agreements give lenders extensive controls over the borrower group.
The role of a lender is often “excepted” for PSC purposes but this doesn’t mean that lenders benefit from protection in all situations. The Government’s guidance makes it clear that all facets of a person’s relationship with a company should be examined as part of the “control and influence” analysis. If a lender has the ability to pull numerous strings affecting key aspects of a company’s business, then could it potentially qualify as a PSC? What if the controls and vetoes that it has negotiated take it outside the scope of a “normal” lender/borrower relationship? .
Shares frozen: The biggest potential trap for a lender is finding that it can’t take or enforce its share security (or exercise voting rights or take dividends) because a restrictions notice is in place. A company within the borrower group which is not owned directly by an identifiable UK company may have no option but to serve a restrictions notice in order to demonstrate that it is using “reasonable efforts” to extract information – failure to do so could even trigger the “comply with law” undertakings in the facility agreement itself.
Any person serving a restrictions notice is required to take into account the possible impact on third parties, which could include a secured lender, but this is scant protection for a lender dealing with the prospect of frozen security. Getting a restrictions notice lifted may take time and effort.
Protective wording? Lenders are dealing with PSC-related risks via facility documentation by requiring borrower group companies to:
- certify, as a condition precedent, that they have not received a warning or restrictions notice;
- represent and warrant that they haven’t received a warning or restrictions notice;
- provide copies of any notices they do receive,
- comply with any requests for PSC-related information; and
- refrain from serving a warning or restrictions notice unless required by law.
And the LMA? So far, the LMA has not amended its standard-form documents to take account of the PSC regime but we understand that changes to the LMA facilities are on the horizon.