On 29 July 2013, the Federal Supreme Court decided on article 9(2) SESTO-FINMA, one of the provisions whereby FINMA intended to implement the regulation set forth in article 20 SESTA on disclosure duties for substantial positions in companies listed in Switzerland. The Federal Supreme Court ruled that article 9(2) SESTO-FINMA has no legal basis in the SESTA to generally require notifications to the stock exchange and the companies by nominees acquiring or selling equity securities for the account of several beneficial owners that are independent of each other. The consultative draft of the Financial Market Infrastructure Act would provide for an express legal basis for such disclosure, if enacted.

By Benjamin Leisinger (Reference: CapLaw-2014-1)

1) Facts of the Case

X. LLC (X.), a company domiciled in the US is the parent company of an international group providing services in asset management and investment advice and managing an important set of funds. As part of its business, X. and its subsidiaries invest in companies listed on the SIX Swiss Exchange Ltd. (SIX). X. is held by two classes of shareholders, Class A and Class B. On 18 December 2009, X. and another company, A. Ltd. (hereinafter A.), a company whose investment positions have partially been held by shareholders of Class B of X., filed a request for a ruling with the Disclosure Office (DO) of the SIX based on article 20(6) of the Stock Exchange Act (SESTA), requesting a finding that the two companies were not acting in concert and could calculate and notify, if required, their interests independently of one another. On 24 March 2010, the DO granted this request.

However, the DO also held that the shareholders of Class B of X. formed an organized group controlling X. and, therefore, they were indirect holders of holdings managed by X. As a consequence, they should declare these holdings on a consolidated basis with their own interests.

X. and A. have unsuccessfully objected against this recommendation at the Financial
Market Supervisory Authority FINMA (FINMA). By decision of 17 August 2011, FINMA rejected the appeals and, inter alia, stated that X. and its subsidiaries should indeed be classified as beneficial owners of shares they managed, and that the fact that they were not the owners would not be relevant.

X. appealed against this decision to the Federal Administrative Court. By judgment of 6 December 2012, it also dismissed the appeal. It noted that the nominees’ obligation to report under article 9(2) of the Ordinance of FINMA on Stock Exchanges and Securities Trading (SESTO-FINMA) was consistent with the meaning of article 20(1) SESTA and that the shareholders of Class B of X. were able to decisively influence the decision-making of X. and its subsidiaries, including how they decide to manage interests of their clients and exercise the voting rights attached to it. The Federal Administrative Court accordingly also found that the shareholders of Class B qualified as an organized group controlling the decision-making of X. and were subject to the reporting requirement under article 9(2) SESTO-FINMA.

On 29 January 2013, X. filed an appeal with the Federal Supreme Court against the Federal Administrative Court’s judgment. The Federal Supreme Court decided on 29 July 2013 that the Federal Administrative Court’s judgment should be set aside and found that article 20 SESTA compels neither X. nor its subsidiaries, nor holders of Class B of X. to notify the holdings of the beneficial owners within the portfolio managed by X. and its subsidiaries (2C_98/2013).

2) The Federal Supreme Court’s Considerations

In the Federal Supreme Court’s opinion, the dispute only concerned the question of whether X. holds the positions “for its own account” within the meaning of article 20(1) SESTA and is therefore obliged to notify the holdings of its customers, of which it is only the manager that freely exercises the voting rights attached to these holdings.

The decision focused on two aspects: first, the requirement for X. and its subsidiaries to declare their own positions together with their clients’ interests (“consolidation down”) and, second, the obligation to then consolidate these positions with those held by its shareholders of Class B (“building up”). The Federal Supreme Court’s decision mainly is of interest regarding the consolidation down.

According to article 20(1) SESTA, whosoever directly or indirectly or acting in concert with third parties acquires or sells for their own account securities or purchase or sale rights relating to securities in a company domiciled in Switzerland whose equity securities are listed in whole or in part in Switzerland, or a company not domiciled in Switzerland whose equity securities are mainly listed in whole or in part in Switzerland, and thereby attains, falls below or exceeds the threshold percentages of 3, 5, 10, 15, 20, 25, 331/3, 50 or 662/3 of voting rights, whether or not such rights may be exercised, must notify the company and the stock exchanges on which the equity securities in question are listed. Pursuant to article 20(5) SESTA, FINMA shall issue rules relating to the scope of the obligation to notify, the treatment of share acquisition and sale rights, the calculation of voting rights and the time limits within which the obligation to notify must be fulfilled and a company must publish changes in its ownership structure pursuant to article 20(1) SESTA. FINMA issued these rules in the SESTO-FINMA.

Under article 9(2) SESTO-FINMA, the obligation to notify also applies to those who, by the acquisition or sale of equity securities for the account of several beneficial owners independent of each other, reach, exceed or fall below the threshold percentages and are entitled to exercise voting rights to that extent. Article 9(3)(d) SESTO-FINMA clarified that the granting of a power of attorney exclusively for representation at a single general meeting of shareholders does not trigger a reporting obligation by the agent.

The Federal Supreme Court recalled that the duty to notify the stock exchange and the relevant company set forth in SESTA is unique and does not attach to civil law relations. Rather, the economic situation is decisive.

The Federal Supreme Court stated that where the statutory text is clear, the relevant authority should apply the law and cannot depart therefrom unless there are reasonable grounds to believe that the text does not fit in all respects to the true meaning of the provision in question and leads to results that the legislature could not have intended and that offend the sense of justice or the principle of equal treatment. It stated that such patterns may result from preparatory work, the basis and purpose of the requirement at issue, as well as the relevant provision’s relationship with other provisions.

At first glance, the Federal Supreme Court held, the text of the provision is clear: it does not require persons or entities holding interests on behalf of third parties in connection with, for example, an asset management mandate, to declare such holdings. It then examined whether this strict literal interpretation complies with the true meaning of the provision or whether there are substantial grounds for believing that the text does not fit in all respects to the perception the legislator wanted to give it. When performing its analysis, the Federal Supreme Court compared the text of other financial market regulation and found that the term “for its own account” is also used in other contexts, in particular to define the different categories of securities dealers subject to the SESTA. The securities dealer is deemed to act “for its own account” when it executes securities transactions in its own name without the order or instructions of others and when it bears the risk itself. By transposing this concept to the obligation to notify, the court held that someone who acquires or sells in its own name or in the name of a client, but who does not bear the economic risks must be considered not acting on its own behalf, but rather acts on behalf of the client. For asset managers, the Federal Supreme Court stated that it is the client who must therefore be regarded as the beneficial owner of such holdings and, thus, as the relevant holder for purposes of article 20 SESTA.

The Federal Supreme Court first referred to article 36 of the Swiss Constitution. This article provides that any restriction of a fundamental right must (i) have a legal basis, in case of serious restrictions in a law in the formal sense (and not only an ordinance), (ii) be justified by a public interest and (iii) be proportionate to the aim pursued. The Federal Supreme Court also referred to applicable literature and stated that requiring custodian banks and asset managers to report holdings belonging to their clients when they freely exercise the right to vote thereon, in some cases, may not improve transparency but instead create confusion due to a double notification concerning the same involvement. The Federal Supreme Court then compared article 20 SESTA and article 9(2) SESTO-FINMA with other provisions in Swiss law. After doing this, it found that neither article 31 SESTA, a provision providing for an obligation to notify in the context of takeover bids, nor article 9(3) SESTO-FINMA, a provision clarifying the meaning of indirect acquisition or sale, nor article 689(d) of the Swiss Code of Obligations contain any arguments or reasons to interpret article 20 SESTA in a way that nominees would generally be required to declare what they hold for the account of their clients. As a consequence, the Federal Supreme Court found, that article 20(1) SESTA is clear and that there are no compelling reasons to depart from the wording.

After concluding on this point and stating that there was no obligation for X. and its subsidiaries to report their own interests and the interests they hold on account of their clients on a consolidated basis, a fortiori, it said that such an obligation cannot be imposed on the shareholders of Class B, either. In the Federal Supreme Court’s view, therefore, the question of building up did not arise in this context.

In its discussion, according to the author’s reading, the Federal Supreme Court admitted, however, that there are still situations where it will be diffi cult to decide whether holdings of clients should be consolidated with the nominees’ own holdings because of the extent of the discretion with respect to the exercise of voting rights and investment or divestment decisions and the nominees’ factual control.

3) Discussion

One must positively note that the Federal Supreme Court questioned the legal basis of a general duty for all nominees to consolidate their own holdings with the holdings they hold for the account of several benefi cial owners independent of each other and where they are entitled to exercise the voting rights. Since a violation of article 20 SESTA leads to administrative criminal proceedings, the standard applied for legal certainty and clarity of the formal law should indeed be high. But, as the Federal Supreme Court also admitted, they are still situations where the reasons underlying article 20 SESTA could call for a disclosure obligation of the nominee.

In order to swiftly address the argument of the Federal Supreme Court that article 9(2) SESTO-FINMA had no basis in article 20 SESTA, i.e. in the formal law, the Federal Council in the draft of the Financial Market Infrastructure Act (FMIA) launched for consultation on December 13, 2013, proposed to put the substance of article 9(2) SESTO-FINMA in the law itself. In the proposed draft article 110(2) of the FMIA, everyone who can freely exercise the voting rights with respect to shares has to take these shares into account when calculating his own position. The proposed wording would indeed focus on the relevant aspect underlying article 20 SESTA, namely who “controls” the voting rights with respect to the shares, independent of the legal status (ownership or beneficial ownership) with respect to them.

In practice, the question may now arise as to whether nominees who have previously based their disclosure practice on article 9(2) SESTO-FINMA will have to temporarily change their practice in light of the Federal Supreme Court’s decision and will then have to come back to their current disclosure practice once the proposed article 110(2) FMIA is in effect. However, since the Federal Supreme Court admitted that there are situations where the extent of discretion with respect to the exercise of voting rights could qualify as an indirect acquisition in the meaning of article 9(3)(d) SESTO-FINMA, it is advisable that the nominees analyze the extent to which they are entitled to exercise voting rights and factually “control” the holding positions. In case of doubt, the nominees should request a recommendation from the DO as to the extent of their disclosure duties. However, in so far as the nominee legally or factually fully controls the shares, e.g. where the voting rights are freely exercised and where even all investment decisions are taken by the nominee, the Federal Supreme Court’s decision does not change the current legal situation in the authors view, a view also implied in the commenting report of the Federal Council that was published simultaneously with the draft FMIA, and it will not change by implementation of the proposed article 110(2) FMIA.

By Benjamin Leisinger