This Article does not affect any provision of the non-Convention law, or, to the extent permitted by the non-Convention law, any provision of the

uniform rules of a securities settlement system or of the account agreement, relating to the method of complying with the requirements of this Article or the allocation of the cost of ensuring compliance with those requirements or otherwise relating to the consequences of failure to comply with those requirements.

Commentary

I. Introduction

24-1. Article 24 constitutes a core rule for the protection of account holders. Paragraph 1 states a general rule by providing that an intermediary must hold or have available securities or intermediated securities corresponding to the credits it has made to the securities accounts of its account holders, so that the total amount thus held or available is at least equal to the total amount of the securities credited to the securities accounts of its account holders.

24-2. This general rule is supplemented by three provisions. Paragraph 2 contains a list of ways in which the intermediary may comply with the rule. Paragraph 3 refers to the non-Convention law for the determination of the time frame within which the intermediary must take action to comply with the rule. Finally, paragraph 4 introduces a safeguard: The obligations imposed by this article do not prejudice any provisions of the Convention law or, to the extent permitted by the non-Convention law, any provisions of a securities settlement system or of an account agreement with regard to two issues: (a) the method of compliance with the requirements set forth in this article and (b) the allocation of the costs with respect to the compliance with those requirements.

II. History

24-3. Throughout the negotiations, this provision has experienced important changes. In the first version of the preliminary draft Convention (UNIDROIT 2004 – Study LXXVIII – Doc. 18), Article 14, under the title of “Duties of the intermediary with respect to holding or credit of securities”, already contained an implicit general obligation of the intermediary to hold sufficient securities. However, the rule was formulated in negative terms: the intermediary may not make a credit to its account holders or dispose of the securities held with another intermediary if this would lead to non-fulfilment of the requirement to hold sufficient securities. In addition, Article 14 was a more detailed rule. In particular, it paid special attention to (a) the determination of the moment of the failure to comply with the requirement, (b) the time framework to comply with the requirement, or (c) the distribution of the costs incurred by the intermediary for this reason.

24-4. During the first session of the CGE, many delegations agreed on the substance but expressed their view that the article was excessively detailed and that it should provide only for the core duties of intermediaries. As a result, the provision was notably simplified and reduced to three main issues: (a) the general rule on the requirement to hold sufficient securities but maintaining the negative formulation; (b) when this requirement is not met, the obligation of the intermediary to correct it immediately or promptly; (c) and a broad reference to the non-Convention law on the

UNIDROIT 2009 – CONF. 11/2 – Doc. 5 – Article 24 111.

distribution of the costs of ensuring compliance with that requirement. In the text resulting from the first session, old Article 14 was renumbered as Article 16. See UNIDROIT 2005 – Study LXXVIII – Doc. 23 rev., sections 138-144 and 193, and UNIDROIT 2005 – Study LXXVIII – Doc. 24, Appendix 1, p. 12-13.

24-5. During the second session of the CGE, the formula of the general rule was changed into a positive one: the Committee reached consensus on the need to retain the rule but in a less restrictive form that placed a positive duty on an intermediary to maintain sufficient securities. The title of the Article was modified accordingly. Moreover, the words “for account holders” were added in square brackets to paragraph 1 in order to flag the question whether the article should relate to account holders’ securities only. In the text resulting from the second session, the provision corresponded to Article 17. See UNIDROIT 2006 – Study LXXVIII – Doc. 42, Appendix 1, p. 13-14 and UNIDROIT 2006 – Study LXXVIII – Doc. 43, sections 117-118 and 183.

24-6. During the third session of the CGE, apart from some drafting points, three issues were agreed: (a) to delete the text “for account holders” in square brackets in paragraph 1; (b) to refer to the non-Convention law for the timeframe for the intermediary to comply with the requirement;

and (c) to expand the reference to the non-Convention law not only to the cost but also the methods of maintaining the balance. In the text resulting from the third session, the provision corresponded to Article 19. See UNIDROIT 2006 – Study LXXVIII – Doc. 57, Appendix 1, p. 12-13 and UNIDROIT 2007 – Study LXXVIII – Doc. 58, sections 83-87 and 153.

24-7. During the fourth session of the CGE, three modifications were introduced: (a) in paragraph 1, the idea of “availability” was incorporated into the text, i.e., the word “hold” was replaced by the expression “hold or have available”; (b) in paragraph 1, the formula “other than itself” was added in order to express that Article 24 applies to securities that an intermediary holds or has available for its account holders, but not to its own securities; and (c), in paragraph 2 the list of methods to comply with the obligation to maintain sufficient securities was reformulated in a more neutral and open manner. In the text resulting from the fourth session, the provision corresponded to Article 21. See UNIDROIT 2007 – Study LXXVIII – Doc. 94, Appendix 1, p. 11 and UNIDROIT 2007 – Study LXXVIII – Doc. 95, sections 179 and 229.

24-8. Finally, during the first session of the diplomatic Conference, the provision was adopted without introducing any modifications (UNIDROIT 2008 – CONF. 11 – Doc. 48 Rev.). In the final text, it corresponds to Article 24.

III. Analysis

III-1. General rule: paragraph 1

24-9. Paragraph 1 states the main rule, i.e., the obligation of an intermediary to hold or have available for the benefit of its account holders securities or intermediated securities that correspond to the credits it has made to the securities accounts of its account holders, so that the total amount thus held or available is at least equal to the total amount of the securities credited to the securities accounts of its account holders. The meaning of “hold or have available” is discussed later in section 24-13, and the word “hold” is used in most of the following examples and commentary.

EXAMPLE 24-1: IM 1 has three account holders, X, Y and Z. Each of them has 100 ABC shares. According to Article 24(1), IM 1 has the obligation to hold 300 ABC shares, for example, in physical certificates and/or in a securities account opened with an upper-tier intermediary.

24-10. The purpose of this rule is to provide a minimum duty of an intermediary to its account holders. The rule applies at any level of the chain of intermediation, and thus applies to a CSD where it acts as an intermediary. In that situation, the CSD must hold or have available securities registered on the register of the issuer which correspond to the credits it has made to the securities accounts of its account holders.

EXAMPLE 24-2: ABC has issued 1,000,000 shares represented by a global note that is immobilised in a CSD. With regard to the accounts of the participants in the CSD, Article 24(1) applies. Therefore, the CSD must not credit to the securities accounts of its participants an amount of ABC shares greater than 1,000,000.

24-11. The class of the securities credited to the securities accounts of the account holders must correspond to the class of the securities or intermediated securities held by the intermediary; i.e., for each description of securities credited to the securities accounts of its account holders, the intermediary must hold sufficient securities or intermediated securities of that description.

EXAMPLE 24-3: If IM 1 has credited 100 ABC shares to the securities account of its account holder X, it must hold an equivalent amount of ABC shares of the same class. It does not meet the obligation imposed by Article 24(1) if it holds, for example, bonds issued by the same issuer or DEF shares, even though the economic value of the securities held is the same.

24-12. The term “securities of that description” is equivalent to the term “securities of the same description” which is defined in Article 1(j). Securities are “of the same description” as other securities if they are issued by the same issuer and (i) they are of the same class of shares or stock; or (ii), in the case of securities other than shares or stock, they are of the same currency and denomination and are treated as forming part of the same issue. The underlying idea is legal fungibility between the securities or intermediated securities held by the intermediary and the securities credited to the securities accounts of its account holders. The qualification is determined by the applicable law: i.e., the question of whether the shares or the stock are of the same class or whether the securities form part of the same issue is determined by the law applicable to the corresponding securities.

EXAMPLE 24-4: In the setting of EXAMPLE 24-3, the question of whether the ABC shares credited to the securities accounts of the account holders of IM 1 are of the same class as other ABC shares held by IM 1 is determined by the law applicable to the shares. This is not a question dealt with in the Convention.

24-13. The obligation imposed on the intermediary is “to hold or have available” sufficient securities. This is intended to cover different jurisdictions with respect to what intermediaries have in their intermediated securities system. In some jurisdictions, intermediaries hold securities (or intermediated securities). In other jurisdictions, intermediaries have nothing but power to make book entries (i.e., credits and debits). For simplicity, the word “hold” is used in most places in this commentary.

24-14. If the securities are credited to the securities accounts of its account holders, the intermediary must have the securities available by a method contemplated by paragraph 2, discussed below. For example, the intermediary may physically possess them or have them credited to its securities account with an upper-tier intermediary. However, an arrangement to borrow securities in the future or a mere pledge in favour of the intermediary at the upper-tier level is not enough to meet the obligation set forth in Article 24(1).

UNIDROIT 2009 – CONF. 11/2 – Doc. 5 – Article 24 113.

24-15. Article 24(1) only deals with the securities of the account holders of an intermediary. This provision only requires that the intermediary hold sufficient securities or intermediated securities to satisfy the amount of securities credited to the securities accounts it maintains for its account holders. The phrase “other than itself” means that where an intermediary maintains a securities account for itself, Article 24(1) does not impose such obligation on the intermediary with respect to the securities credited to that securities account.