National Security and Investment Bill

Lord Bruce of Bennachie Excerpts

Report stage
Thursday 15th April 2021 Lords Chamber

Moved by

[Lord Bruce of Bennachie]

9: Clause 8, page 6, line 38, at end insert—
“( ) For the purposes of this Act, a person does not gain control of a qualifying entity if the person acquires a right or interest in or in relation to the entity—(a) solely by way of obtaining security; and(b) in a situation where they obtain no effective control.”

[Lord Bruce of Bennachie (LD) [V]]

I thank noble Lords. Amendment 9 is self-explanatory:

“Clause 8, page 6, line 38, at end insert—


“( ) For the purposes of this Act, a person does not gain control of a qualifying entity if the person acquires a right or interest in or in relation to the entity—


(a) solely by way of obtaining security; and


(b) in a situation where they obtain no effective control.”


The purpose of this is to ensure that transactions constitute a trigger event only where the person gains actual control of a qualifying entity and, very specifically, to exempt Scottish share pledges or other situations where no effective control is obtained. I moved a previous amendment in Committee, and I thank the Law Society of Scotland, which has drawn this matter to my attention. I thank both Ministers, the noble Lords, Lord Callanan and Lord Grimstone, for engaging with me, the noble Baroness, Lady McIntosh, and representatives of the Law Society of Scotland to discuss this issue, which the Law Society still feels has not been satisfactorily addressed by the Government. Obviously, this amendment would be an attempt to ensure that it was.

There is a particular point about Scots law. The amendment is intended to exclude a situation whereby the sole fact of pledging shares in security, under Scots law, would be classed as a trigger event. A Scottish shares pledge does not allow a security holder to exercise effective control over the relevant shares in a Scottish company. The primary concern is that the current proposal suggests that a trigger event would take place in a situation where no control has in fact passed. The Ministers will be aware that not only did we exchange very useful views in discussion in meetings— I repeat, we are grateful to the Ministers for engaging with us—but the Law Society president then wrote to the noble Lord, Lord Grimstone, copying in the noble Lord, Lord Callanan, to express the concern that there was still an outstanding issue that needed to be addressed. As set out in the letter, the Bill as currently drafted fails to align with clear statutory precedents for treating shares that are the subject of Scottish share pledges as still being controlled by the pledger. For example, there is the definition of “subsidiary” in Section 11(59) of the Companies Act 2006, as supplemented by paragraph 7 of Schedule 6 to that Act. That reference obviously comes from the Law Society and not from me. This would create a disparity between Scotland and England—that is the real concern —and could make it harder for Scottish companies to obtain loan finance, as well as disincentivising potential investors from establishing vehicles under Scots law.

The amendment would ensure that a trigger event was recognised at the point at which the transfer of control actually occurs. In doing so, it would enhance the ability of the Secretary of State to carry out a national security assessment and impose any safeguards, but at the most appropriate point.

The Law Society, very helpfully, has set out a hypothetical example reflecting what it would say is a common, real-life scenario. For the purposes of this, it is control over company C which gives, or may give, rise to national security concerns. The situation is this: company A is seeking to raise finance, by way of a loan, and approaches bank B. Bank B agrees to lend the money against security over the shares held by company A in its wholly owned subsidiary, company C. Under current Scots law, the only way to obtain fixed security over shares is by way of a share pledge, with the shares being transferred to bank B or its nominee. As such, it can be said that bank B holds the shares, as per Clause 8(2)—that is, the bank holds 100% of the shares in company C. However, holding the shares in this scenario is not ownership in the true sense, and does not give the security holder effective control. Bank B will be unable to sell the shares, has no right to be paid dividends, has an obligation to immediately retransfer the shares on the money secured being repaid and, most importantly, will be unable to exercise voting rights, other than in conformity with company A’s wishes. In practical terms, company A therefore remains in full control of company C, and bank B is not, in fact, in a position of control.

In the previous debate, Schedule 1 was acknowledged and it appears to address the issue, recognising a scenario where a person grants security over shares but continues to exercise de facto control. However, the clarification refers to rights attached to shares, rather than the holding of the shares. Therefore, it does not fully account for the different situation, where a lender becomes the registered holder of shares in security. That has been the case with a share pledge in Scotland and has been standard Scottish legal and business practice since the 19th century. This is different from English law because, by way of comparison, under an English charge over shares this situation just simply does not arise, because no formal transfer of the charge shares is required to perfect the charge. In the parallel English scenario, the same relationships of control or lack of control exist but—this is crucial—no trigger event is recognised. The disparity between the situations in Scotland and England is one of real concern, which has been highlighted. It is not only prejudicial to existing Scottish businesses, by increasing obstacles to obtaining finance, but risks making Scotland less attractive as a jurisdiction in which to establish a business vehicle. I do not need to remind your Lordships how important the financial services sector is to Scotland. Indeed, Scotland’s contribution to the UK economy is disproportionately large in this sector. So, in project financing, investors could prefer an English vehicle, if this makes it easier to obtain funding. The practical effect is that long-established Scottish legal and business practice is being treated adversely compared to its English counterparts. I am sure that is not the intention of the Government or Ministers, but that remains a continuing concern of the Law Society of Scotland.

Acquisitions will, of course, be notifiable only in relation to the listed sectors. However, it is not the notification requirement per se that poses the risk to the ability of Scottish business to access finance. As identified in the context of the PSC, lenders are reluctant to enter into arrangements that suggest that they have control over an entity when this is not the case. The breadth of the call-in power, the potentially broad scope of national security concerns, means that many transactions may be called in for up to five years after the event has taken place. This creates uncertainty, and uncertainty, of course, opposes a commercial risk. The potential for transactions to be called in after the event in other sectors, may ultimately have a greater impact by disincentivising lenders. I hope the House is clear that this is a point of real and substantive concern.

In real life, it is very unlikely that bank B would seek to appropriate the shares in company C, in the scenario I outlined earlier. The most common scenario, following an event of default, would be for bank B to notify company A that it was going to enforce the security, and then sell the share in company C to repay the debt. The sale of the shares in company C to another purchaser—purchaser P—would constitute a trigger event under Clause 5. There is also the potential that bank B would decide instead to retain the shares. Having given notice to company A, bank B would therefore, at that point, enter into control of company C, acquiring all voting rights, dividend rights and the ability to sell the shares. That is the point at which the trigger event should occur. Entering into control of the shares following a default could indeed be specifically recognised as a trigger event, but that scenario is already suitably covered by Clause 8(2).

In a situation where company C falls within one of the 17 listed sectors, bank B’s acquisition of control would be recognised only if the appropriate notification had been given. In a situation where the Chancellor was not compulsorily notifiable, the five-year call-in period would begin to run at the point bank B assumed control. This could give the Secretary of State a longer timeframe in which to assess any risks posed by ownership of the shares vested in bank B. Notice of bank B’s interest would appear as a matter of public record, subject to the default occurring after the annual return showing that the share pledge had been taken. That would all happen long before bank B was able to take control. For these reasons, there is no real risk of hostile actors targeting lending arrangements as a means to gain control of national security-sensitive entities. The Secretary of State would retain discretion over available remedies, which could be applied at the appropriate time.

Nothing in the remarks that I have just made will come as a surprise to Ministers, because it has been set out in detail in a letter from the president of the Law Society of Edinburgh, addressed to the noble Lord, Lord Grimstone, and copied to the noble Lord, Lord Callanan. I hope that the Minister will acknowledge that there is an outstanding point of concern. As I say, we are all grateful to the Minister for engaging with us and showing understanding that this is a real issue.

None of us is of the view that there is any intention to put Scotland and Scottish businesses at a disadvantage, but, without this amendment or some comparable amendment that the Government might agree to or introduce, there remains a real possibility of discrimination against Scottish financial services and investment businesses, which would be politically awkward and embarrassing as well as practically damaging to the interests of both Scotland and the United Kingdom sector. I hope that the Minister can acknowledge that this issue needs to be addressed head on and that assurances can be given that the concerns outlined will not actually take effect. I beg to move.

[Baroness McIntosh of Pickering (Con)]

My Lords, I am delighted to speak in support of, and to have co-signed, Amendment 9. I am grateful to the noble Lord, Lord Bruce of Bennachie, for moving and speaking to the terms of the amendment so thoroughly. I also echo his thanks to the Law Society of Scotland for highlighting this issue at Committee stage and bringing forward this amendment for Report. I also thank my noble friends Lord Grimstone and Lord Callanan for the time that they spent with the noble Lord, Lord Bruce of Bennachie, me and members of the Law Society of Scotland going through the issue with us. I remind the House that I am a non-practising member of the Faculty of Advocates.

This is quite a sensitive time to be raising this matter, mindful of the fact that elections are going on in Scotland—they will be held on 6 May—so I am sure that it is not the intention of a British Government whom I overwhelmingly support to seek to disadvantage Scotland at this time. We are here to assist the Government and bring to their attention the ramifications of the preventions of the Bill currently before us. Amendment 9, so eloquently moved by the noble Lord, Lord Bruce of Bennachie, would simply ensure that transactions constitute a trigger event only where a person gains actual control of a qualifying entity—and to exempt Scottish share pledges in relation to other situations where “no effective control” is obtained.

Of all the comments made by the noble Lord, Lord Bruce, I echo the comparison that he made with English law, which could cause some confusion and has perhaps led to this regrettable situation. Of all the things that I recall from the conversation that we had on the call with my noble friends the Ministers, I want to impress on the Government that this is not just an issue but potentially one of some magnitude—my noble friend Lord Callanan seemed not to grasp that during the call, so I pause to emphasise it to him.

By way of comparison, under an English charge over shares, this situation does not arise, because no formal transfer of the charged shares is required to perfect the charge. In the parallel English scenario, the same relationships of control or lack thereof exist, but no trigger event is recognised. I am sure that this is just an unfortunate situation that has arisen, which is why it is timely to bring it to the Government’s attention today. The disparity between the situations in Scotland and England is one of the concerns that we seek to highlight as not only being prejudicial to existing Scottish businesses and increasing obstacles to obtaining finance but risking making Scotland less attractive as a jurisdiction in which to establish a business vehicle. I support all the comments that the noble Lord, Lord Bruce of Bennachie, made.

In the spirit of openness, as this is an extremely technical issue—I can quite understand if my noble friends perhaps do not fully grasp the situation in which we find ourselves—I have taken the opportunity to bring it to the attention of the Advocate-General, my noble and learned friend Lord Stewart of Dirleton, who will fully consider the ramifications. As such, I have every confidence that, before the Bill leaves this place, full and due consideration will be given to Amendment 9 and what we are seeking by moving it today.

--- Later in debate ---

[Lord Callanan (Con)]

I am of course grateful to the noble Lord, Lord Bruce, and my noble friend Lady McIntosh for Amendment 9 in their names. As they outlined, it seeks to exempt from the call-in power acquisitions made by way of obtaining security over a qualifying entity where no effective control is obtained. I start by placing on record my thanks to the noble Lord, my noble friend and the Law Society of Scotland for meeting my noble friend Lord Grimstone and me following Grand Committee to discuss this issue in detail. Indeed, we have considered all the points that were made.

As I emphasised in that meeting and in our subsequent correspondence, the Government do not consider that the provision of loans and finance is automatically a national security issue. Indeed, lenders need confidence that they can see a return on ordinary debt arrangements in order to provide that service. However, we must also recognise that in a small number of cases national security risks can arise through debt arrangements. Noble Lords have particular concerns about the Bill with regard to Scotland. I understand—and the noble Lord, Lord Bruce, stated—that this is because it is usual practice in Scotland for a lender to become the registered holder of shares in security through a shares pledge.

Having heard the concerns, the Government have reflected carefully on the issue, but we continue to believe that an exclusion would not be appropriate in this case. In such circumstances, the legal title to shares will, as a matter of fact, have been acquired by the lender, and it is important that we do not inadvertently create a loophole that those who wish us harm might otherwise seek to exploit.

While I note that the proposed amendment has been updated since the version debated in Grand Committee, reflecting my noble friend’s intention to limit the exemption to situations where “no effective control” is obtained, I fear that this would be difficult to reconcile with the mandatory regime.

It would introduce a new, inherently subjective concept that would sit uncomfortably with the need for acquirers to be able to objectively determine their legal obligations. I hope that noble Lords who have stayed the course on this Bill—a small, gallant band—will know by now that it is focused on the central premise of acquiring control, with these circumstances defined in detail in respect of entities in Clause 8. This amendment would lead to a circular argument in the Bill, in which a trigger event is the acquisition of control—except for when control is not acquired. I am sure that a number of lawyers in this country would be licking their lips with that provision in the Bill.

I mentioned particular concerns about how this would affect the mandatory regime, but the Government also consider that this would cause difficulties for voluntary notification and for the Secretary of State’s call-in power. None the less, both my noble friend Lord Grimstone and I have committed to monitoring the operation of the regime in practice with regard to this issue. Clause 6 provides the Secretary of State with the power to make “notifiable acquisition regulations” to amend the scope of the mandatory regime. That could be used in future, if considered appropriate, to exclude circumstances related to acquisitions by way of security from the mandatory notification regime.

I will address head-on the point made by the noble Lord, Lord Bruce, that this will be particularly disadvantageous to Scotland. It is important to emphasise that such lending arrangements are also possible in England and Wales—albeit we know that they are less common. This Government are staunch supporters of Scotland and it is vital that the Scottish legal and finance sectors continue to flourish.

Let me briefly make three other points on this amendment, which I hope will provide further reassurances to the noble Lord and my noble friend. First, the Bill broadly mirrors the existing approach of the persons with significant control register, which does not exclude legal owners of shares acquired by way of security. I take great confidence from the fact that this has been in place since 2016 and has had no discernible effect on the willingness of lenders to provide finance in Scotland.

Secondly, the mandatory notification and clearance element of the regime is proposed to apply only to entities of a specified description within 17 sectors of the economy. The number of circumstances requiring notification where a lender acquires the legal title to shares at or above the thresholds in this Bill is therefore likely to be low and, as with all acquisitions, the Government expect that the overwhelming majority will be quickly cleared to proceed.

Thirdly, as has been previously debated, I am sure my noble friends will welcome the removal of the 15% threshold I spoke about in a previous group. This will further reduce the number of cases covered by the mandatory regime in relation to securities.

So, for all the reasons I have outlined, I hope that both noble Lords will accept the arguments I have put forward and will feel able to withdraw the amendment.

[Lord Bruce of Bennachie (LD) [V]]

I thank the Minister for his response and for addressing the details. I am not convinced that the Law Society will be entirely satisfied that the difference between Scottish and English law has been fully appreciated. The Minister talked about legal title but, as I said in my opening remarks, legal title is meaningless if the shares pledge explicitly excludes any mechanism for dealing with the shares—either receiving voting rights, dividends, or the right to sell and an obligation to have them back when the loan is repaid. It simply is not control.

I take note that the Minister is concerned that the Scottish situation is not unique and therefore could cause complications in England and Wales, but the practice is clearly well established in Scotland. As I said in my opening remarks, it has been since the 19th century and is relatively unusual elsewhere in the UK.

I understand that the Minister believes that there will be relatively few instances, but part of the problem with the Bill is that an awful lot is undefined, in terms of the 17 sectors, the details of how those will be determined, the circumstances in which triggers will happen and the definition of national security. All of those things are explicitly not set out in detail.

I welcome Ministers saying they will monitor the situation closely. The assurance I would be looking for if we withdraw this amendment—obviously we will ask the Law Society what it feels about the unamended Bill—is that, if it becomes apparent there is a significant negative impact on Scottish business and the Scottish sector, the Government will be prepared to act to remove such discrimination.

It is a long-established fact that one reason the Scottish financial services sector is so strong is that it has a long history of prudent asset management and insurance, which has given Scotland a disproportionate share of both national and international business because of its reputation for, if I may put it in these terms, “canniness” in managing investments and other people’s money. That being the case, we do not want a situation where the law as introduced somehow compromises that. That would not be good for Scotland or the UK either.

I hope these remarks will be noted by Ministers and they will undertake to consult and respond to any representations that emerge showing that the concerns we have outlined are real and significant. If the Minister is correct in his assurance that, though they may be real they will not be very significant, perhaps the matter can rest. But I am sure that I, the noble Baroness, Lady McIntosh, and others will make it clear to him that, if it becomes apparent that there is a significant problem for Scotland and that uncertainty is disadvantaging Scotland, he will hear about it. In the meantime, I withdraw the amendment.

Amendment 9 withdrawn.