Session 16

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Re Bank of Credit and Commerce International SA
• Debtors: Rayners and others borrowed $ 3.5 m to invest into certain property
• Creditors: BCCI- the Bank
• Security: Rayner’s property as well as Jessa’s letter to create charge over his deposits
with the Bank i.e. $ 1.5m
• BCCI is in liquidation and the bank
• Claims against Rayners for $ 3.5m
• Claim against Jessa’s deposit $ 1.5m
• Owes Jessa $ 1.5m as their depositor subject to pari pasu
• BCCI’s liquidator: Rayners pay full amount of $ 3.5m
• Rayners: Set off against Jessa’s deposit
• Court held:  Rayners owed to repay the full amount and no set off is possible
• Reasons:
Charge was to trigger the set-off- it actually did
Letter created a security-charge
Letter created flawed security as it did not create personal/contractual liability on the part of
Jessa
Set off required ‘mutuality’- 
Jessa being third party did not create the mutuality
Mutuality existed between Rayners and the BCCI
Effects of the security-letter
• The first B paragraph purports to grant the bank a proprietary interest, in the form of a
lien or charge, over Mr. Jessa's deposit.
• The second paragraph is a warranty that he has not previously encumbered his interest in
the deposit and a covenant that he will not do so in the future. And
• The third paragraph is a contractual agreement that the deposit will be repayable only if
all the liabilities of Rayners have been repaid.
• The document does not contain any promise by Mr. Jessa to pay what may be due from
Rayners to the bank.
Hire/purchase or secured transaction?
• Hire-purchase/ credit Sale
 • Customer: Makes installments Rs 100 for 10 months
• Retailer: Transfers computers worth Rs 1000
• No recourse to the asset/computers
• Secured loan
• Customer: Makes installments Rs 100 for 10 months
• Retailer: Transfers computers worth Rs 1000
• In case of failure to pay all the installments, the retailer will have recourse to the
computers- equity of redemption

Re George Inglefield Ltd

In Re George Inglefield Ltd, Romer L.J. identified the following three key distinctions between
a security interest and a sale:
• a seller is not entitled to recover the assets sold by returning the purchase money, whereas
a security provider is entitled to recover the charged assets by discharging the secured
obligations;
• a purchaser is not required to account to the seller for any profits made on a resale of the
assets sold, whereas a security provider is entitled to amounts realized on the sale of the
charged assets in excess of the secured obligations;
• ‘a seller is not, by reason only of having sold the assets, required to account to the
purchaser for any loss incurred by the purchaser on a resale of the assets sold whereas, if
secured assets realize less on sale than is required to discharge the secured obligations,
the security provider remains liable for the shortfall. However, characterization of an
arrangement as a sale does not require the purchaser to bear the risk of any such loss; the
fact that such risk is offset by guarantees and/or other security for such shortfall will not
affect the characterization of the arrangement as a sale rather than a secured loan’

Yorkshire Railway Wagon Co v Maclure (1882) 1 CLD 309

• Financier
• Makes loan £ 30,000
• Receives charge over rolling stock
• Receives installments
• Company
• Receives £ 30,000
• Makes installments under the lease
• Right to repurchase the rolling return for £ 1 at the end of term
 • Company goes down and financier sues for the guarantee.
• The company directors claim the transaction to be sham
• The court held that the transaction was an arrangement of secured loan. In other words
the rolling stocks created security. However, the security could not be implemented as a
secured loan for language of the arrangement.

Smith ltd v Bridgend County Council- floating charge

• Construction contract provided for
'[A]t anytime [to] sell any of the constructional plant, temporary works and unused goods and
materials and apply the proceeds of sale in or towards the satisfaction of any sums due or which
may become due to [it] from the contractor under the contract...'
• Is the charge created?
• What type of charge is created?
Beaconwood Securities Ptv Ltd v ANZ Banking Group- collateral and security document`
• Transferee:
• Takes security
• Becomes insolvent
• Wishes to retain security
• Transferor: 
• Transfers the security
• Monies lent paid back
• Requires the security back
• Security lending agreement:
• Outright transfer of title occurs
• Transferee used the security
• Redeliver equivalent- bonds
• The court held that 'securities lending agreement between the parties did not create
charge or security arrangements’ but it was lending of bonds which transferee could use
and return the identical bonds.
• Language of the agreement- ‘Redeliver equivalent' and not identical securities

What is a Charge?
• Sec 859A provides for registration of charge.
 • ‘Charge’ has not been defined in the Companies Act 2006
• Swiss Bank Corp v Lloyds Bank Ltd [1982] AC 584 (CA)
• '… a security whereby real or personal property is appropriated for the
discharge of a debt or other obligation, but which
• does not pass either an absolute or a special property in the subject matter of the
security to the creditor,
• nor any right to possession
• In the event of non-payment of the debt, the creditor's right of realization is by
judicial process ' 
Problem with this definition
1- It covers equitable charges and
2- Requires judicial process for enforcement
According to Charles Proctor,
• '[S]ection 859A is apt to refer to any voluntary arrangement designed to provide to the
lender priority over particular assets of the charger in the event of its insolvency and
which includes powers of realization, appropriation or sale whether by virtue of the terms
of the arrangement or by law.’
• Bank having a contractual right of set-off over deposits will amount to charge
• Customer with the contractual obligation that certain deposits will not be repayable until
a particular facility has been discharged will not create a charge but a mere right of
retention
Need for security?
• The effect of a security is to establish rights of a 'proprietary nature'
• This right has an impact on the rights of other creditors
• Difference between secured and unsecured creditor lies in the creation of security
Recharacterization
• Recharacterization creates uncertainty I.e.
• Sale/purchase or sale/lease back agreements recharacterized as a security arrangement.
Scope and Extent of security
• The extent and scope of the security document are set through provisions such as
• 'as from time to time varied, extended, amended or replaced'
• Thus, the original security remains effective if
• the maturity date of the underlying facility is extended, or
• if the interest rate is increased by an amount appropriate to reflect the borrowers'
 deteriorating credit quality.
• For example:
Payments now will be made within 15 months. The amount to be paid is Rs 2,000
Public Trustee of Queensland v Octaviar Ltd
• Octaviar: Gave a security/created charge 'Security A'
• '[A]ll monies, obligations and liabilities of any kind that are or may in the future
become due, owing or payable, whether actually, contingently or prospectively by
[Octaviar] in relation to any Transaction Document ...'
• 'Transaction Document'
• A $250 million facility agreement between the lender and Octaviar Castle Pty
Ltd- a subsidiary of Octaviar
• Any document designated by as a 'Transaction Document'
• Young Village Estates (YVE Guarantee): Octaviar had previously provided a guarantee
(YVE guarantee) to the same lender in respect of a facility granted to another of its
subsidiaries YVE.
• YVE Guarantee was not backed by any security.
• As a result of deteriorating financial situation Octaviar executed an agreement whereby
YVE Guarantee was regarded as 'Transaction Document’ to back it by ‘Security A’
• The issue in the court was whether the 'Security A' covered the YVE guarantee?
• The Queensland Supreme Court held that
• Execution of the agreement to include 'YVE Guarantee' as Transaction Document
was valid.
• However, 'Security A' did not cover the YVE Guarantee as the YVE guarantee as
a Transactional Document had the effect of increasing the amount secured or
creating a new security interest over the assets concerned
• The agreement was not filed (registration), the attempt to extend the charge to
cover the YVE Guarantee was ineffective as against a liquidator or administrator
of Octaviar
• Queensland court of appeal overturned the decision and rendered the extension of
‘Security A’ to cover YVE Guarantee to be a valid extension of charge not requiring
registration.
• The court of appeal held that variation in the charge requires registration. Registration is
not required for the extension in coverage.
The Companies Act 2006
• Sec 859A(2) provides that,
• 'The Registrar [of companies] must register the charge if, before the end of the period
allowed for delivery, the company or any other person interested in the charge delivers to
 the registrar for registration a section 859D statement of particulars'
• Every charge created by a UK registered company is subject to the requirement of
registration of charge.
• In case of the charge created by a written document, a certified copy of the document is
required along with 'the statement of particulars' to register the charge
Statement of particulars
• 1- Details of charger company
• 2- Nature and extent of the security
• 3- Identity of the charge
• 4- Description of 'negative pledge' I.e. subsequent charge
Registration of charge?
• Registration protects the other creditors of the charger
• A void security will not result in vitiating the contractual obligation to repay money
which was intended to be secured by the charge.
Registration requirement
• The 21 day period for registration of the charge runs from the date after the date on which
the charge was created.
• The court has discretion to extend the 21-day period if
• Non-registration was due to inadvertence and does not prejudice creditors or
• It is otherwise just and equitable to do so
• Validity of the security agreement will affect the registration
• Registration requirement applies to assets outside UK held by UK registered Company
• In case of acquisition of property with pre-existing charge- registration is required
• 'Certificate of registration' will be conclusive evidence that the requisite documents have
been delivered to him within the required period for delivery.
• Any extension in the nature and scope of charge needs to be registered as well
Exception from registration requirements
• A charge over a cash deposit in favour of a landlord- tenancy agreement
• Charge created by a member of Lloyds in respect of underwriting business and
• Charge excluded from the registration requirement under any other Act- financial
collateral arrangement
Foreign Assets
• A UK registered company is required to register charge regardless of the geographical
 location of the asset. This is logical because searching the charges register of a UK
company would be concerned about the security subsisting over assets anywhere in the
world.
• Whether a security created over foreign asset will be a question of English law. The court
will assess the need for requirement of registration based on the examination of the
security creating document. If the security creating document meet the definition of
charge under English law, registration will be required.
• An English court will enforce an English Law charge over a foreign asset even though the
security may be unrecognized or invalid in the country in which the asset is situate. In
British South Africa Co v De Beers Consolidated Mines Ltd, the English court enforced a
floating charge situate in Scotland.
• However, in order to ensure enforcement of charge in a foreign country, a charge should
be registered locally too.
• A foreign company is required to register charge in England, if the company’s charged
assets are located in England
• There are two formalities in law
• A- Writing- sec 1 (3), the Law of Property Act 1989 requires a deed to be executed in its
full text, and that the mortgagor cannot simply leave executed, blank pages in the
possession of his advisors for use at the completion
• B- Registration is required for the validity of security against third parties- So that third
party dealing with the charger should discover the existence of the security.

Session 17
Negotiable instruments
According to DV Cowen and L Gering in Cowen on the law of negotiable instruments in south
Africa (5th edn, 1985) Negotiable instrument is a document of title embodying rights to the
payment of money or a security for money, which by custom or legislation
1- Transferable by delivery (or by endorsement and delivery) with holder acquiring the right to
sue on it in his own name and in his own right
2- A bona fide transferee acquires good title to the document and rights in it even though his
predecessor had a defective or no title

Fundamental principles of common law

Mercantile custom:
Negotiable instrument is an example whereby mercantile custom overcomes a common law
principle. According to common law principle, transfer of debt was not permissible. However,
commercial men embodied the debt in a chattel (a piece of paper) and render the debt
transferable through transfer of chattel.
Certainty:
Ashhurst J in Carlos v Fancourt [1794] said,
‘Certainty is a great object in commercial instruments and unless they carry their own validity on
the face of them, they are not negotiable…’
The Bills of Exchange Act 1882, Section 3 Bill of exchange defined.
(1)A bill of exchange is
an unconditional order in writing,
addressed by one person to another,
signed by the person giving it,
requiring the person to whom it is addressed to pay
on demand or
at a fixed or determinable future time
a sum certain in money to or to the order of a
specified person, or
to bearer
Fundamental principles of common law
• Protection of the bona fide purchaser
• Negotiable instrument ensures a bona fide purchaser acquire complete and good title
even though the transferor had defective or no title.
• Bills of exchange • Share warrants
• Cheques • Bearer scrip
• Promissory notes • Bearer debentures
• Bank notes • Bearer bonds
• Treasury bills • Floating rate notes
• Banker’s bank • Certificates of deposit
• Dividend warrants

• This protection to bona fide purchaser is an exception to the nemo dat rule
Examples of negotiable instruments:
Not negotiable instrument
• Bills of lading
• Dock warrants
• Delivery orders
• Postal or money orders
• Registered share certificates
• Registered debentures
• Insurance policies
• IOUs
What is an instrument?
• An instrument has been described as ‘ a document of title to money’
• A document of title to money contains an undertaking to pay a sum of money such as a
promissory note or
• An order to another to pay a sum of money to the person giving the order or a third
person such as in a bill of exchange.
• An instrument is ‘deliverable’ when it is made payable to bearer or specific person
through endorsement on the back
• As a chattel
• Rights on and to the negotiable instrument
• Proprietary nature of the negotiable instrument
• Special kind of chattel
• As an obligation
• As a new and independent obligation
• As a contract
• Application of the doctrine of consideration and
• As a special kind of contract
 • Right on and to it:
• The negotiable instrument is a physically tangible thing, and just as one speaks of
ownership of or title to, a chair or a car, so one can speak of ownership of a negotiable
instrument.
• Right on it: right to demand the sum payable on it
• Right to it: right to hold the instrument
Proprietary nature of the negotiable instrument
• Owner of a negotiable instrument can retain possession of it, sell it, transfer it, give it as a
gift, destroy it or alter it
• Possession and ownership can be retained separately- how?
• Unlawful possession triggers the law of conversion i.e. owner gets the right to demand
restitution of the instrument or is value.

Special kind of chattel:

• It embodies an obligation in it and by transferring the chattel, the obligation is transferred
• ‘The common law did not recognize the transferability of a debt, but accepted that the
owner of a chattel could sell, pledge or deliver it to someone else at will. If debt be given
the outward appearance of a chattel, why should it not be transferable just as a chattel is?’
(Sussman, The Law Of Bills Of Exchange )
As an obligation
• A new and independent obligation- either credit sale or loan
• Initial obligation- payment for sale or loan
• Second obligation- payment on the instrument
• When the instrument is dishonored, it gives rise to two causes of action
• Evidence for the initial obligation and
• Consideration for the second
As a contract
• It is unilateral contract being part of a transaction
• In a sale transaction involving bill of exchange, there are two contracts
• A bilateral contract between seller and buyer
• A unilateral contract in the form of bill of exchange
• A bill of exchange creates a contractual obligation therefore all the rules applicable to a
contract is applicable to the negotiable instrument
Negotiability:
• Holder: true owner can sue the thief or finder in law of conversion
• Holder: thief or finder of the instrument
• The true owner can sue the thief or finder in law of conversion
• Bona fide purchaser: purchaser of the instrument for value in good faith (without
knowledge of the defective or no title of the holder)
• Bona fide purchaser acquires a good title to the instrument
• True owner has no claim against the bona fide purchaser

Negotiability:
‘Its capacity to be acquired free from defects in the title of prior parties which characterizes an
instrument as ‘negotiable’ in the strict sense of the word.
According to Blackburn J, negotiable instrument has two characteristics
1- Transferable like cash; by delivery
2- protection to bona fide purchaser
Crouch v credit foncier of England:
• Plaintiff claims
• The property in debenture was transferred to him by delivery- deliverable state
and
• The right to sue was also transferred to him- no transfer of right to sue if
purchaser is aware of defect in title- bona fide purchaser acquiring better title
• In Dixon v Bovill, Lord Cranworth said,
• ‘[T]he law does not … enable any man by a written engagement to give a floating
right of action at the suit of any one into whose hands the writing may come, and
who may thus acquire a right of action better than the right of him under whom he
derives title’
Difference between contractual and negotiable instrument:
• Simmons v London Joint Stock Bank [1891], Bowen LJ distinguished between contractual
and negotiable instrument
• A contractual document in other words may be such that, by virtue of its delivery, all the
rights of the transferor are transferred to and can be enforced by the transferee against the
original contracting party, but it may yet fall short of being a completely negotiable
instrument, because the transferee acquires by mere delivery no better title than his
transferor’
Advantages of negotiable instruments
• Overcome the common law restriction on transfer of debt
• Easy transferability with no requirement of
• Writing or
• Notice to obligor
• Bona fide purchaser’s right
• Readily sold to raise cash
Cebora SNC V SIP LTD [1976]
• Plaintiff: Sells the right to exclusively supply its product in the UK
• Defendant: draws five bills of exchange
• Dispute: non delivery of goods and bills dishonored
• Registrar refused the defence of non-delivery to dishonor the bills and said
• ‘the bona fide holder for value of a bill of exchange is entitled … on its maturity to have
it treated as cash … the court will refuse to regard either as a defence or as grounds for a
stay of execution, any set off … or any counterclaim …’
Nova (Jersey) Knit ltd v Kammgarn Spinnerei GmbH
English co: Sold machines
German co: Drew bills of exchange
Bills got dishonored and German co raised the defence and counter claim of mismanagement of
partnership and defects in machinery
House of Lords held German co liable for full payment of bills of exchange without set off or
counter claim
Defenses available against the NEGOTIABLE INSTRUMENTS
• Failure of consideration- goods supplied did not meet the contractual requirement
• Partial failure of consideration- part of the supplies did not meet the contractual
requirements
• Validity of the instrument is called in question on misrepresentation or conspiracy
Not the legal tender
• Although negotiable instruments are treated as cash but they are not legal tender. In Re
Cahrge Card Services Ltd [1989], Browne-Wilkinson V-C said
• ‘It is common ground that where a debt is ‘paid’ by cheque or bill of exchange, there is
presumption that such payment is conditional on the cheque or bill being honored.’
Mercantile usage and negotiable instruments
 • In Goodwin v Robarts [1875], Cockburn CJ recognize mercantile usage whereas in
Clerke v Martin [1702], Lord Holt declared the Promissory Notes was not negotiable and
denied to sanction the mercantile usage.
• Even if the usage is of recent origin the courts will still recognize it.
• Mercantile usage must be
• Reasonable, certain and notorious
• Generally in use and not ‘a custom or habit which prevails only in a particular
market or particular section of the commercial world’ Easton v London Joint
Stock Bank [1886]
• Must not be non-negotiable or transferable by some other method
Goodwin v Robarts [1875]
• Goodwin purchased Russian and Hungarian scrip through his stockbroker
• The stockbroker retained the possession of the scrip
• The stockbroker fraudulently pledged it with a bank as a security for loan
• The stockbroker went bankrupt and the bank sold the scrip
• Goodwin sued the bank for the realization of sale proceed
• Bank argued the scrip was negotiable by delivery, Goodwin lost the title

Session 18
International bond market
• Pre-history
• Share capital
• Loan capital
• Eurodollar market
• Negotiable instruments
 • Bond documentation
• Temporary Global Notes Permanent Global Notes
• Modern Era
• Emergence of ICSDs
• New Global Note Structure
• Legal analysis of bonds market
Development of international bond market:
• Until 1945, currencies used to remain within the boundaries of their states. To make
payments for international trade in dollars, the borrower used to approach US based
banks or investors for instance.
• After World War II, the US financed rebuilding of Europe through the Master Plan. As
the result, the European companies received large amount of payments in US dollars
• During the Cold war in 1950s and 1960s, international trade was conducted in the US
dollars. Soviet bloc preferred to keep the US dollar in European Banks instead of US
based banks
• This gave birth to Eurodollar market-the large pool of US Dollars held outside the US
was available as an alternative source of funding for companies and governments.
Eurodollar market in Europe
• In 1963, Kennedy Administration introduced Interest Equalization Tax- 15% surcharge
on interest received by US lenders and investors from non-US borrowers
• In 1965, Foreign Credit Restraint Program- limited the amount of credit the US banks
could make to non-residents.
• In 1966, the Regulation Q lowered the rate of interest payable by the US banks on
deposit.
• Financing of trade and infrastructure led to the growth of Eurodollar market.
• New emerging middle class in Europe was not interested in investing into dollar but they
preferred to invest into debt securities which could be held for the long term or sold for
cash. This was particularly the case to avoid taxes.
What is bond?
• ‘Bond is used as a generic term to include all obligations and instruments which
constitutes or evidence long-term indebtedness, and which are traded between investors
during the period between their issue and the date of redemption’
How do companies raise capital?
• Bank loans
• Share capital- equity investors
• Loan capital-
Bank loans
• Most commercial banks raise funds by taking deposits from retail customers or from
other banks by way of deposits which are payable on demand or within a short period.
• On the other hand lending for long term will expose the bank to potential liquidity
squeeze.
• Long term credit needs of large companies are met by Borrowing from the
• Investors willing to lend for long term or
• Offer share capital to the investors
Share Capital-Equity investors
• Growth of the Joint stock company marked the beginning of international trading
• Why do companies issue share?
• What is legal definition of share?
• ‘[A] share appears to me to be closely akin to a debt…’ Fry LJ in Colonial Bank v
Whinney [1885] 30Ch D 261
• Shares are not held in trust- Borland’s Trustee v Steel Brothers & Co [1901] 1 Ch
279
• Shares include rights and obligations
• Shares are choses in actions and transferable and transfer of share requires
registration

Loan Capital -Bonds

• Loan capital-
• ‘The part of the capital of a company or the like that is borrowed for a specified
period’-The Oxford English Dictionary
• ‘… merely borrowed capital consolidated into one mass for the sake of convenience.
Instead of each lender having a separate bond or mortgage, he has a certificate entitling
him to a certain sum, being a portion of one large loan’- WB Lindley, Lindley on
Companies (6th Edn, Sweet & Maxwell, 1902)
• The Companies Act 2006
• ‘Debenture’ includes debenture stock, bonds, and any other securities of a company,
whether or not constituting a charge on the assets of the company- sec 738
• ‘Securities’ means shares and debentures- sec 755(5)
• ‘Securities’ means shares, debentures stock, loan stock, bonds, units of a collective
scheme … and other securities of any description- sec 78
 • Structure of bond defines the type of rights and obligations created
• Bonds held in trusteeship entitles beneficiaries right to sue the trustee and protects
the company- SPV is an example
• Deed-poll bonds with no trusteeship entitles each bondholder to sue the company
individually- unilateral contract
• National identity of the issuer defines the choice of jurisdiction such as German issuer
will prefer Germany as a choice of jurisdiction
• The bonds are transferable and every transfer was recorded in a register kept by the
company to keep track of bondholders

Commodity and trading activities in market

• Nature of commodity defines the nature of trading activities in the market such as trading
activities in iron/agricultural produce market depends on the demand for iron or
agricultural produce.
• It is quite otherwise in bond market. Trading activities define the nature of commodity.
• ‘Accordingly, the development of the market (i.e. the trading in bonds between
market participants) has shaped the form of the commodity in which they dealt.
… the legal structure of bond issues and the way in which the rights are created
and held has changed to meet the needs of the trading community.’
Why is the Bond market complicated?
• First- nature of bond being dealing in debt such as issuer, investors, sellers, buyers and
brokers.
• Second- stakeholders being involved from various jurisdictions such as
• Issuer: Dutch subsidiary of a Japanese guarantor
• Investor: Swiss mutual fund
• Broker: London
• Selling broker: Frankfurt
• Clearing system: Belgium
• Depository: Bank in Paris
Bond Documentation
• Issuer: borrowing company
• Subscriber: investors/lenders
• Coupons: interest
Temporary Global Note
• After the Wall Street Crash of 1929, the Securities Act 1933, sec 5 required registration of
 the securities offering with the SEC aimed at the US investors and US nationals outside
the US.
• Sec 5(5) provided ‘safe harbour’ (no registration requirement) to foreign issues they had
to exclude US nationals as investors
• Purpose of the ‘safe harbor’ was defeated when banks started to subscribe (underwriters)
for the issue and sell them to investors.
• SEC introduced the lock up period i.e. within 40 days of underwriting the issuer will sign
and produce the instrument of bond. US nationals could acquire the bonds after the
signing of the instrument by the issuer
• This resulted in Temporary Global Note i.e. the Temporary Global Note would set out the
issuer the issuer’s promise to pay an amount equal to the total of the principal value of the
notes to be issued.
• The note would be placed with depository for safe keeping
• At the end of 40 days, the issuer will produce definitive notes which would in aggregate
be the same value as the Temporary Global Note
• By 1960, telephone and computers entered the financial markets
• As market developed, the professionals and institutional investors started to dominate the
markets. Individuals preferred to trade in bonds through their brokers
• Advantages of holding definitive notes diminished as international tax regulations
developed
• Global temporary note became permanent note. The definitive notes were replaced by
amendment in the global permanent note

Scenario A
• Depository in France goes bankrupt
• ICSDs can claim the bond’s delivery or
• Liquidator Depository will retain the bond inviting all potential claimholders to
ascertain priority
• Who owns the property- which country’s private international law is applicable?
Scenario B
• Depository bank in Paris is incorporated in Netherlands
• Insolvency proceedings in Dutch court will determine the ownership right to the bond
according to Dutch law
• If the Dutch private international law are similar to the English private international law-
French law will be applicable as the since the note was physically in France
Session 19
Historical development of EC Securities Law
• Absence of single market was an obstacle to economic development of European
Economic Community (EEC)
• Harmonization of separate securities codes was a way to break down barriers and move
towards single markets
• The Investment Services Directives (ISD) 1993
• Market in Financial Instruments Directives (MiFID) 2007
• The Lamfalussy Report
The Lamfalussy process
• The Lamfalussy process comprised four level of legislation
• Framework principles
• Implementing measures
• Cooperation and
• Enforcement
• A single rulebook across the entire EU- the Larosiere Report
EC Directive relating to securities
• The Consolidated Admissions and Reporting Directive- CARD
• The Prospectus Directive
• The Transparency Obligations Directive
• The MiFID

Purpose of security Regulations

• All market participants should have access to same level of information
• Classification of investors and provision of information accordingly
• Prospectus regulations specify the level and type of information which should be made
public
• Conduct of Business defines different type of treatment a seller of security must give to
 various types of customer
• Transparency regulation specifies the type of information being made available to market
• Market abuse regulation prevents misuse of inside information
Policies underpinning the EU Directives
• Creating of single efficient market
• Passporting of authorization-
• Same minimum standards applicable to security requirement and
• No discrimination over authorization or treatment of members state’s
securities
• Provision of liquid pool of capital across the EU
• Investor protection- MiFID regulated conduct of business- The Transparency Obligations
Directives 2004
• ‘The disclosure of accurate, comprehensive and timely information … builds
sustained investor confidence and allow an informed assessment of their business
performance and assets. This enhances both investor protection and market
efficiency.’
• EU Securities directives have achieved approximation with power to state to make more
stringent rules
• Consolidated Admission and Reporting Directives (CARD) promoted coordination
instead of harmonization
Offers of securities
• Most securities are offered to
• Public or
• Private investors
• Most securities law deals with public companies
Sources of securities LAW
• EC High Level framework- EC directives set out the framework on which UK Securities
laws are drafted i.e. the FCA Handbook
• EC’s Technical Regulations- the FSMA 2000 Part 6
• Securities laws includes general laws relevant to
• Misrepresentation in offering documents
• Fiduciary duties of some participants in securities transactions
• Remedies for loss at common law
• Right to recover property or loss in equity
 • Conflict of laws and
• Criminal offences such as market manipulation, fraud, theft and so forth
Consolidated Admissions and Reporting Directive- CARD
• Coordination
• CARD is limited to admission of securities to official listing on a stock exchange
• CARD addresses differences in the structures of securities market in member states and
enable the member states of potential situation they might encounter on account of the
differences
• Establishment of minimum conditions ensures free movements of capital
• Passporting
• Passport enables a security admitted to listing in Member State x to be admitted to
listing as a result in Member State y.
• Investor Protection
• Making accounts and annual reports available
• Continuing obligations to provide identified classes of information
Prospectus Regulation
• The Prospectus Directives 2003 have been enacted into the FSMA 2000 in the UK
• Breach of Prospectus Directive is a matter of national law. The Prospectus Directive
requires right to compensation which is contained in s 90, FSMA 2000.
• Minimum content requirement for prospectuses
• Facilitate mutual recognition of prospectuses- to facilitate viable Europe-wide securities
market with deep liquidity pools of capital
• Prospectus must be approved and published before an offer is made to public or a request
to admit the securities to trading on a regulated market.
• The FSMA, Sec 85 provides for
• The authorization and publication of the Prospectus is required
• For the public offering of the securities before listing and
• Admission for trading in regulated markets
• The FSMA, Sec 87A requires the prospectus to disclose ‘necessary’ information for an
investor to make an ‘informed assessment’ as to the trading in specific securities
• Breach of sec 85 constitutes a criminal offence- Part 6 FSMA 2000
Commission’s technical regulation on prospectuses
• Availability of wide range of competing investment opportunities
 • Independent regulatory authority enforce the rules
• Need to encourage innovation
• Ensure systemic stability by close and reactive monitoring
• Reducing cost of and increasing access to capital
• Balance cost and benefit of market regulations
• International competitiveness of community’s financial markets
• Level playing field for all market participants
• Respect for national financial markets without compromising coherence with Community
legislation
Transparency Obligations Directives
• Under the Companies Act 2006, Part 43 and the FCA-Disclosure and Transparency Rules
(DTR)- the EC Transparency Obligations Directives, disclosure is required to ensure
transparency
• ‘This Directive establishes requirements in relation to the disclosure of periodic and
ongoing information about issuers whose securities are already admitted to trading on a
regulated market situated or operating within a Member State.’
• Disclosure is required through half yearly and annual financial reports in terms of
• Financial position of the company
• Changes in major shareholding along with changes in vote holder control should
be made public
Listed Securities
• Listed securities are listed on ‘official list’ maintained by the UK Listing Authority
(UKLA) under its Listing Rules
• FCA has drafted the Listing Rules which are governed by the Listing Principles
• The Listing Principles include
• Directors should understand their obligations
• Maintenance of adequate procedures
• Systems and controls
• The conduct of activities with integrity
• Clear communication to prevent false market
• Equal treatment of all shareholders
• Conduct of dealing with FCA
The Listing Rules
 • The Model Code concerns with corporate governance within listed companies to prevent
misuse of inside information
• During prohibited periods any insider must seek clearance to deal in the companies
securities
• The Listing Rules require a statement of compliance with the Model Code in annual
financial report of the company
• Admission into the official list requires
• An issuer must be authorized
• Prepared accounts
• Published the financial information
• Had appropriate management and working capital etc
Continuing Obligations
• Continuing obligations under the FCA
• Disclosure in prospectus- sec 87A, FSMA 2000
• Listing rules require
• Listed securities continue trading on a regulated market
• Listed securities must remain in public hands
• Compliance with the Model Code

Market Abuse
• Criminal offences of inside dealings
• The FCA imposes penalties for inside information
• The Listing Rules contains code for market conduct to prevent inside dealings
Power of Punishment by the FCA
• Under FSMA 2000, the FCA has four separate powers to prohibit, suspend or control
securities transactions
• Power to suspend listing- sec 77
• Suspend or prohibit an offer of transferable securities to public- sec 87K
• Suspend or prohibit admission to trading on a regulated market- sec 87L
• Suspension on the ground of breach of the disclosure rules- sec 96C

Sources of law controlling market abuse

 • Criminal law on inside dealing and market manipulation
• FCA’s power to impose penalties
• The Model Code in the Listing Rules and
• Market Abuse Rulebook 1 (MAR 1)- FSMA, sec 119 defines various categories of
market abuse
• Using inside information for himself
• Disclosing the information and
• Failing to observe proper market conduct while dealing with sensitive information
Liability to pay compensation
• FSMA 2000, sec 90 requires compensation of loss for
• Untrue or misleading information in prospectus or
• Omission of information
• Misrepresentation in prospectus leads to general liabilities to buyers
• Defences to mis-selling
• Defendants belief in the truth of the statement
• Relying on a statement by an expert or a statement in an official publication and
• An attempt to public correction

Session 21
Purpose of forum selection
• Forum selection cannot be universal for instance a judgement obtained in the UK to
freeze assets in China can only be enforced if English court has jurisdiction in China to
enforce its judgment.
• Jurisdiction to hear the dispute and
• Jurisdiction to enforce the dispute
• To ensure additional forum
• Insulate against the adverse legislation introduced by the borrower’s country
• Standards of the courts in terms of expertise, impartiality and accommodating procedures
No express forum selection
• Long arm rule is applicable in the absence of an expres selection of forum i.e.
• ‘A court having some connection with one of the parties or transaction has jurisdiction’
Universal jurisdiction
• Agreement by defendants to submit to a jurisdiction of a court
• In common law countries place of incorporation confers the jurisdiction
• In Roman Germanic (civil law) the ‘seat’ is decisive of
• Principal place of business or
• Central control of the company is exercised

Long Arm jurisdiction

• In the case of long-arm jurisdiction courts have a discretion to accept jurisdiction
• The jurisdiction is exercised if the court concerned is the most convenient forum
• The courts are slow to deny jurisdiction if the court considers that the plaintiff will have a
better result in their courts than elsewhere in terms of damages. This promotes forum
shopping leading to lawyers charging substantial cut of the proceeds of the litigation
• Long-arm jurisdiction is constituted in following circumstances
• A- ‘Heathrow writ’ local presence of an individual debtor (UK, US)
• B- Debtor having a local agent
International Shoe v State of Washington [1945]
• The court laid down a principle of judicial jurisdiction that ‘there must be such
“minimum contracts” with the State of the forum as not to offend traditional notions of
fair play and substantial justice’
• In the absence of any physical presence in Washington and any contract in Washington,
‘doing business’ constituted jurisdiction for a Washington court over a Missouri
enterprise
Long arm rule
• C- The transaction has local connections-
• Was locally made
• Contract governed by the local law
• Contract preformed there
• Property located there
• A trust is domiciled there
• D- Local nationality of the claimant
• E- Domicile of the claimant regardless of nationality
 • F- Local assets of the defendant
• G- Courts exercise long-arm jurisdiction for procedural reasons such as one defendant
needs to join other defendants outside the jurisdiction
The EU Judgment regulation 2000
• Principles
• Nation wide recognition and enforcement
• Mutual trust and free movement of judgments
• Application
• Defendant domiciled in a member state
• When art 22 applies in relation to exclusive jurisdiction
• Mainly land
• Validity of corporate constitutions, dissolution and decisions of their
origins and
• Validity of entries in public registers
• One of the parties is domiciled in a member state and parties have chosen a court
in or outside the EU by a forum selection clause in compliance with art 23
Basic principles of the EU Judgement
• For a person domiciled in a member state, the member state has jurisdiction regardless of
nationality
• For corporation it is the central place of business or place of incorporation
• Judgment by a member state is enforceable universally in the entire community except
subject to public policy – art 33 and 34
• There are exceptions to the first principle where
• i- another court has exclusive jurisdiction under art 22
• ii- Another court has jurisdiction under jurisdiction agreement complying with art
23
• iii- Proceedings have commenced in a member state court under art 5 & 6
• iv- Art 23 allows the creditors to contract out of the jurisdictional principles and
confer jurisdiction on another member state
Overall assessment of the EU
• Strength
• Prevents forum shopping
• Ensures freedom of contract
 • Allows Euro-wide preservative assets
• Automatic recognition and enforcement of member states judgment
Weakness- Inconvenient forum
• Owusu v Jackson
• Owusu hired a holiday villa from Jackson
• Owusu and Jackson both were domiciled in the UK
• The villa was in Jamaica
• Owusu got seriously injured when swimming from the beach
• Owusu sued Jackson in England
• Jackson claimed Jamaica was more appropriate forum and asked the English court
to stay proceedings
• Held: 1968 Convention (Brussels) precludes a court of a contracting state from
declining the domiciled jurisdiction under art 2

Abuse- Turner v Govit (2004)

• Paul Turner: a young solicitor for Harada ltd
• Grovit: controls the Harada ltd
• Turner was sent to work at the group’s Madrid office where he found the company was
using employees’ tax deductions to pay the creditors
• Turner filed a suit in England claiming ‘he had been victim of efforts which were
tantamount to unfair dismissal’ He succeeded in the action
• Govit brought proceedings in Spain for unjustified departure. The court of appeal found
the proceedings in Spain was brought in bad faith and matter was referred to the
European Court of Justice (ECJ)
• ECJ held that an anti-suit injunction would be an interference with the jurisdiction of the
other court
Erich Gasser GmbH V misat (2004)
• Plaintiff brought suit in Italy against the jurisdiction agreement which provides for
Austrian jurisdiction
• Held: Austrian court would not decide lack of jurisdiction for Italian court
• Unless Italian court declined jurisdiction, Austrian court could not allow a claim
JP Morgan Europe Ltd v PrimaCom (2005)
• PrimaCom, a German based telecom co, brought a pre-emptive suit in German court
against the exclusive jurisdiction clause in favour of England. The proceeding in German
court was based in bad faith as PrimaCom failed to make an interest payment
 • Held: The English court had to stay proceedings unless German court declined the
jurisdiction
Exception- Bankruptcy
• The Regulation 2000 does not apply to
• Claims to avoid a preference
• A liquidator’s claim against a director for
• Fraudulent or
• Wrongful trading
• It applies to
• Claims by liquidator to cover debts
• Construction of a pre-liquidated contracts
USB AG v Omni Holding AG (2000)
• German and Jersey Co: Debtors
• Security: Shares and a put option against Omni
• Governing law and court: English
• USB enforced the security and exercised the option
• Omni went bankrupt in Switzerland
• UBS claimed for breach of the option
• Liquidators in Switzerland claimed the proceeds of sale of the pledged shares and the
forum should be a Swiss bank
• Held: English court was the right forum
• The issue was pre-liquidation
Exception to domicile rule-art 5-22
• Performance of contract- delivery of goods or provision of services
• In case of tort- occurrence of wrongful event- physical damage caused
• A- German subsidiary of a French parent suffered insolvency as a result of
negligence of a German bank. Can the French parent bring a suit in a French
court?
• French or German court has jurisdiction?
• B- An Italian arrested in England for allegedly depositing dubious noted with a
bank in English bank. Can he bring a suit in Italy for loss of notes and damage to
reputation?
Alternatives to domicile
 • Place of performance of contractual obligation- art 5(1)
• Place of delivery of goods or
• Place of provision of services
• In case of tort- the place where harmful event occurred or may occur
• Physical damage or actual economic loss is suffered
Physical damage or actual economic loss is suffered
• A German subsidiary of a French parent suffered insolvency as a result of negligence of a
German Bank in Germany. Can the French parent bring a suit in a French court?
• German or French court has jurisdiction?
• An Italian arrested in England for allegedly depositing dubious notes with a bank in
English bank in England. Can he bring a suit in Italy for loss of notes and damage to
reputation?
Shevill v Press Alliance (1995)
• Claimant was established in England, France and Belgium
• Libeled in French newspaper with small publication in England
• Held:
• Could sue in the country of publication for all damages caused in all member states or
• In each country of distribution
• Held:
• He could sue in the country of publisher for all damages caused in all member states or
each country of distribution
• The court could rule only on the damage suffered in that country
Negligent misrepresentation
• In case of negligent misrepresentation, the place when the statement originated has the
jurisdiction as opposed to when the statement is received and relied upon unless the
damages are suffered there too
• Domricrest v Swiss Bank Corporation [1999]
• Swiss bank made wrongful advise from Switzerland to England
• English company acted upon the advice and suffered loss in England
• English company brought a suit against the Swiss bank in England
• The court held a Swiss bank had the jurisdiction to hear the dispute
• Dispute arising out of the operation of a branch, agency or other establishment- the place
where the branch, agency or other establishment is situated.
 • Trust- domicile of the trust defines jurisdiction
• More than one defendants domiciled in different states then the jurisdiction can be where
one of them is domiciled
• Third party action: As a third party- a person can be sued in the place of original action
• Immoveable property- where the property is situated
Exclusive Jurisdiction- art 22
• In rem suits- immoveable property such as mortgage actions
• Validity of the constitution, the nullity or the dissolution of legal associations or the
decisions of their organs-Jurisdiction is where the seat is
• Validity of entries in public register- where the register is kept
• Registration and validity of intellectual property rights
• Insurance, consumer and employment contracts- consumer and policyholders must be
sued in the court of his or her domicile and they can sue in the courts of policyholders or
consumer’s domicile
Contracting out- art 23
• Arbitration is not preferred in loan agreement
• Nothing to arbitrate
• Limited appeals
• Time and delays in setting up the tribunals
• Looser procedures and
• Decisions are based on merits instead of principles of law
Pre-judgment attachment
• Most countries allow attachment of a defendant’s asset in order to prevent them being
removed from the jurisdiction for creditors
• English court would freeze assets of a debtor worldwide
• English court will not order the attachment of a debt such as a bank account under the
debt is situated within their jurisdiction
State Immunity
• There exists state immunity against enforcement of judgment against public assets
• UK and US uphold immunity in favor of a foreign contract bank’s assets except the
central bank has waived the immunity itself
• Waiver clause
• ‘The state irrevocably waives all immunity to which it may be or become entitled
in relation to this Agreement, including immunity from jurisdiction, enforcement,
 prejudgment proceedings, injunctions and all other legal proceedings and relief,
both in respect of itself and its assets, and consents to such proceedings and relief’
Article 33- Recognition and enforcement
• 1. A judgment given in a Member State shall be recognized in the other Member States
without any special procedure being required.
• 2. Any interested party who raises the recognition of a judgment as the principal issue in
a dispute may, in accordance with the procedures provided for in Sections 2 and 3 of this
Chapter, apply for a decision that the judgment be recognized.
• 3. If the outcome of proceedings in a court of a Member State depends on the
determination of an incidental question of recognition that court shall have jurisdiction
over that question.
Article 23- Jurisdiction agreement
• 1. If the parties, one or more of whom is domiciled in a Member State, have agreed that a
court or the courts of a Member State are to have jurisdiction to settle any disputes which
have arisen or which may arise in connection with a particular legal relationship, that
court or those courts shall have jurisdiction. Such jurisdiction shall be exclusive unless
the parties have agreed otherwise.
Article 34- Exceptions to recognition
• A judgment shall not be recognised
• 1. if such recognition is manifestly contrary to public policy in the Member State in
which recognition is sought;
• 2. where it was given in default of appearance, if the defendant was not served with the
document which instituted the proceedings or with an equivalent document in sufficient
time and in such a way as to enable him to arrange for his defence, unless the defendant
failed to commence proceedings to challenge the judgment when it was possible for him
to do so;
• 3. if it is irreconcilable with a judgment given in a dispute between the same parties in the
Member State in which recognition is sought;
• 4. if it is irreconcilable with an earlier judgment given in another Member State or in a
third State involving the same cause of action and between the same parties, provided
that the earlier judgment fulfils the conditions necessary for its recognition in the
Member State addressed.

Article 1
• 1. This Regulation shall apply in civil and commercial matters whatever the nature of the
court or tribunal. It shall not extend, in particular, to revenue, customs or administrative
matters.
Session 24
LEHMAN BROTHERS- What went wrong?
• Exposed to risk in
• Real estate
• Collateralized Default Obligations (CDOs)
• Credit Default Swaps (CDS)
• Through Repo 105, Lehman concealed $ 50b in bad assets off the balance sheet.
• Repo transaction- finding a counterparty which was willing,
• for a fee, to take those $ 50b off Lehman’s balance sheet and
• Put it into its own balance sheet for a few days
• subject to an obligation that Lehman would repurchase those assets at an
identified time in future
• When faced with huge losses, Lehman brothers could not acquire capital to cover the
losses on account of liquidity issues existed in the market at that time
Credit Rating Agencies
• Conflict of interest- being paid by the issuer of securities
• A large number of ratings turned out to be wrong
Camerata Property Inc v Credit Suisse Securities (Europe) Limited-2011
• The Claimant - Camerata Property Inc, an investment vehicle owned by a trust. 
• The Defendant -Credit Suisse Securities (Europe) Ltd, financial advisor
• In July the Claimant purchased $12million worth of notes issued by Lehman Brothers
through the Defendant.
• When Lehman Brothers went bankrupt in September 2008, the Claimants lost their
investment.
•  It was contended that the Defendant gave
• negligent advise and/or
• advice in breach of contract 
• The Claimant asserts that had the advice not been negligent it would have sold the
Lehman notes before Lehman collapsed.
• The court held that
• An exclusion clause in the terms and conditions for acts other than gross
 negligence would stand.
• In any event, there would be no negligence where the proper standard of
reasonable care and skill was exercised.
• The court found that the Defendant had not been negligent in failing to give
warnings given that Lehman Brothers’ collapse was not foreseeable.
Credit Default Swaps-CDO
• Before the financial crisis of 2008, there was more money invested in credit default
swaps than in other pools.
• The value of credit default swaps stood at $45 trillion compared to
• $22 trillion invested in the stock market,
• $7.1 trillion in mortgages and
• $4.4 trillion in U.S. Treasury.
• In mid-2010, the value of outstanding CDS was $26.3 trillion.
• A credit default swap (CDS) is a type of credit derivative that provides the buyer with
protection against default and other risks.
• The buyer of a CDS makes periodic payments to the seller until the credit maturity date.
In the agreement,
• The seller commits that, if the debt issuer defaults, the seller will pay the buyer all
premiums and interests that would’ve been paid up to the date of maturity.
• Speculation
• Historically, bond issuers almost never go bankrupt. So, many banks and hedge
funds figured they could make a fortune by selling CDSs, keeping the premium,
and almost never having to pay out anything. 
Collateralized Debt Obligation – CDO
• A collateralized debt obligation is named for the pooled assets — such as mortgages,
bonds and loans — that are essentially debt obligations that serve as collateral for the
CDO.
• Securities firms, who approve the selection of collateral, structure the notes into tranches
and sell them to investors;
• CDO managers, who select the collateral and often manage the CDO portfolios;
• Rating agencies, who assess the CDOs and assign them credit ratings;
• Financial guarantors, who promise to reimburse investors for any losses on the CDO
tranches in exchange for premium payments; and
• Investors such as pension funds and hedge funds.
• Lehman Brothers investment bank owed $600 billion in debt, out of which $400 billion
was covered by CDS. The bank’s insurer, American Insurance Group, lacked sufficient
 funds to clear the debt, and the Federal Reserve of the United States needed to intervene
to bail it out.
PANIC
• Regulators tried to sell Lehman to private sector- no buyer emerged
• Chancellor of the Exchequer Alastair Darling refused to sanction Barclays acquiring
Lehman Brothers
• Moral Hazard argument prevailed- Lehman was allowed to file for liquidation
Immediate aftermath of Lehman’s bankruptcy
• Crisis management was not governed by the law instead the law was used as a tool to
overcome the crisis.
• Moral hazard argument therefore did not stand on the cost and benefit analysis.
• Panic ensued in the Stock Markets and inter-bank markets with the news of liquidation of
Lehman Brothers.
• Lack of confidence resulted in lack of trust among banks
TARP- US
• Consequent bail outs
• Freddie Mae
• Fannie Mae
• AIG
• TARP was a $ 750b worth bail out program
• TARP has been enormously criticized for absence of checks and balance and
accountability against the Wall Street financial institutions
• The bail out funds were used to pay bonuses to failing institutions’ staff such as $7,700 as
bonus for a kitchen assistant at AIG
• While Wall Street financiers were bailed out, ordinary Americans went insolvent and
their homes being repossessed
• President Bush stood up with the financial institutions which caused the crisis 2008
Bail out in the UK
• The Banking (Special Provisions) Act 2008 and the Banking Act 2009 granted the state
the power to bail out and nationalize troubled institutions
• Deposit guarantee scheme and then nationalization of Northern Rock by Bank of England
Beginning of the crisis
• ‘Credit crunch’ or liquidity drying up began in 2007
• BNP showed sign of troubles and Northern Rock had a bank run in 2007
 • Norther Rock’s new CEO Mr. Applegarth was funding long term commitments through
short term funds- a poor strategy
• Unlike Lehman, Citigroup was nationalized
Citigroup
• Citigroup constantly bypassed regulations
• Citigroup hid huge losses in the department created to deal in CDOs
• CEO, Citigroup said,
• ‘When the music stops, in terms of liquidity, things will be complicated. But as
long as the music is playing, you’ve got to get up and dance. We are still dancing’
• The US government injected $ 25b through TARP and $ 20b through other sources.

Session 22
Islamic Finance as a part of International Finance
• Islamic finance comprises 3-4% of the entire International finance in the globe.
• 80% of Islamic finance comprises of Islamic Banking industry
• 80% of Islamic banking relies on Murabaha structure
Sources of Islamic law
• Quran
• Sunnah
• Ijma’a- consensus
• Qiyas- analogy
• Ijtehad- Opinion of jurists
The fundamental principles of Islamic Finance
• Riba
• Gharar
• Maisir
• Unjust enrichment
• Islamic principles of finance do not have binding obligations in courts of law. In other
words unlike Hudd offences, non-Shariah complaint financing is not subject to Islamic
penal code.
 • However, in finance, the validity and enforceability of obligation is crucial to both
parties. Therefore, Islamic finance market is called ‘customer driven market’ which relies
on demand from customers.
Riba
• Riba is an Arabic term which means ‘to increase’. Any increase which results in an unjust
increase is prohibited.
• Money does not have an intrinsic value therefore earning money over money is
prohibited. Money is just a medium of exchange
• Initially, exploitation resulting from the use of loan to earn profit was identified i.e.
‘[T]hat which you lend to increase in the property of others will not increase with God,
but that which you give out in charity, seeking God’s pleasure, it will surely multiply’.
Surah 30:39
• Later increased interest on overdue debts and subsequent compound interest were
prohibited i.e.
‘O Ye who believe, devour not interest, for it goes on multiplying itself; and be mindful
of your obligation to Allah that you may prosper’ Surah 3:130
• The Shariah Appellate Bench, Supreme Court of Pakistan defined riba as
• ‘A transaction of money for money of the same denomination where the quantity
on both sides is not equal, either in a spot transaction or in a transaction based on
deferred payment … Such a transaction would be riba… whether the additional
amount stipulated over the principal amount of the loan or debt is large or
small…’
• The judgment questions the entire conventional banking industry in Pakistan.
• Commitment commission and fee for provision of services i.e. Debit card service charge
do not amount to interest
• However, penalties or late payment charges are riba
Gharar
• Gharar refers to transaction based on incomplete information which leads to uncertainty
i.e. insurance contracts. Insurance contract is based on uncertain future events.
• Similarly, derivatives are based on promise to buy/sell in future date at certain price
generates uncertainty about the trading actually happening.
• Investment in spot and forward foreign exchange contracts was held to be invalid. The
Court of Cassation in Abu Dhabi reasoned that
‘the intention of both parties was to generate profit from the fluctuation of the various
currencies’
• Nonetheless, every contract inherently has some degree of uncertainty i.e. parties going
default, death, storms, strikes etc
• Therefore, gharar invalidates a contract if two conditions are met
 • The risk of uncertainty is significant and
• The risk affects the price or subject matter of a contract
• In order to help Islamic financial institutions, manage the risk through derivative trading,
International Swaps and Derivatives Association (ISDA) and International Islamic
Financial Market (IIFM) have designed Shariah complaint Derivatives Document
Maisir
• Maisir refers to speculative contracts where the outcome depends on luck or chance i.e.
gambling or lottery etc
Unjust enrichment
• ‘Deal not unjustly and you shall not be dealt with unjustly’ Surah 279
• Any contract resulting in one of the parties getting unjust benefits at the cost of the other
party. For example, late payment fee/penalty for delay in the payment of installments is
unjust if the fee/penalty exceeds the actual loss.
• However, this practice questions the constant delays in payment- moral hazards
Rules Governing Islamic finance Transactions
• Islamic finance operates on Islamic principles. These principles are not codified or
enacted into laws.
• These principles are subject to differences of opinion among four schools of thoughts.
• These principles are also subject to local customs, interest of community/ maslahah and
the compulsion of necessity/darura-Malaysian practices
• A distinct feature of Islamic financial institutions (IFIs) is Shariah Supervisory Board
(SSBs). SSBs advise and supervise the IFIs’ compliance with the Shariah or Islamic
principles of finance.
• SSBs’ statement becomes part of the financial statement of the IFIs.
• In Malaysia, the Shariah Advisory Council of the Central Bank of Malaysia regulates the
SSBs in the country according to the Central Bank of Malaysia Act 2009, ss 51-58.
• Shariah Board, SBP issues standards for the guidance of Islamic banks in the Pakistan.
• Accounting and Auditing Organization for Islamic Financial Institution (AAOIFI) and
Islamic Financial Services Board (IFSB) are standard setting bodies for global Islamic
finance industry.
• In the absence of interest, IFIs generate profit through
• Provision of assets- sale
• Provision of services- rent and
• Taking risk- on occupation of property or other assets
Islamic Finance in Court of Law
 • Riba Judgement declared the entire conventional finance industry to be un-Islamic and
therefore unconstitutional- Pakistan
• Islamic finance principles do not form part of a country's legal system. Additionally, the
IF principles have conflicting interpretations- the UK
• The US- Islamic financing techniques are highly suspicious I.e.
• Violate the Establishment clause of the First Amendment- no religion should be
promoted
• Promotes terrorist financing- complicated structure
• Malaysia
Features of Islamic Finance Product
• “And Allah has permitted trading and prohibited riba. (Al-Baqra)”. ‘Interest’ is prohibited
but ‘profit’ is permitted.
• Shariah complaint-financing is not available for
• Manufacturing or sale of alcohol
• Pork products
• The provision of conventional banking activities
• Gambling and
• Pornography/ adult entertainment
• Islamic finance product structure comprises of following fundamental structure
• The sale of an asset on deferred terms, with a pre-agreed profit mark-up
• The provision of assets for use by the customer at a rental charge and
• The sharing of profits from a joint venture or similar arrangement.

Product Structure- Asset/Deposits

• Mudaraba- Partnership
• Wakala- Agency
• Wadi’a- Promise
• Qard- Loan

Following Islamic contractual conditions must be met

 • Object must exist at the time of the transaction- exceptions Bai Salam and Bai Istisna
• Seller must have title to and possession of the asset and
• Object must be permissible in Shariah term
Murabaha (sale contract)
• Murabaha structure
• Customer identifies an asset to be financed i.e. Machinery, equipment, land,
building etc.
• Bank purchases the asset and sells it to the customer
• The sale price includes actual cost of asset plus profit
• The payment is made in installments on future date
• Risk of ownership (damage/loss/price fluctuation etc) justifies the profit
Difficulties with murabaha
• Generally banks do not engage into buying and selling of assets. Islamic banks appoints
customer their agent whereby the agent selects, inspects, order and take possession of the
goods/assets through the use of wakala agreement.
• IF instruments involve multiple transfer of asset/goods (from seller to bank and then bank
to customer). This multiple transfer results in multiple stamp duty in case of immoveable
property in the UK. Multiple stamp duty increases the cost of transaction. In order to
provide level playing field for Islamic finance products the UK government has
eliminated double stamp duty through Sec 73, Finance Act 2003.
Murabaha in court of law
• Islamic Investment Company of the Gulf v Symphony Gems 
• Beximco Pharmaceuticals v Shamil Bank of Bahrain
• DIB v PSI
Tawarruq
• Tawarruq is used for inter-bank funding between IFIs
• Tawarruq is an advanced form of murabaha i.e. bank sells an asset to customer on
deferred payment.
• The customer resells the asset to a third party for instant payment of price and delivery of
asset.
• The customer gets the sum/capital needed and make payments to the bank in installments
Salam and Istisna
• It is one of the basic conditions for the validity of a sale in Shari’ah that the commodity
(intended to be sold) must be in the physical or constructive possession of the seller.
There are only two exceptions to this general principle in Shari’ah. One is Salam and the
 other is Istisna’. Both are sales of a special nature: 
• Salam is used to finance agricultural goods and 
• Istisna’ is used to finance manufactured goods.
Bai Salam (Trust Sale)
• Islamic Bank: Advances Rs 100,000.
• Farmer: Receives Rs 100,000 to grow and deliver Potatoes worth Rs 110,000 after six
months.
• In short, Salam allows for the future delivery of an asset / commodity at a lower cost as
the funds for the asset / commodity is made available at the start of the contract.
Istisna

• The above structure is also known as “simple istisna'”, where it is assumed that the buyer
has the required financing to directly coordinate with the manufacturer on the project. If
the buyer does not have the financing, then the below parallel istisna' structure can be
used.
Istisna' Documentation
• There are three sets of documentation involved in istisna':
• 1. Master Istisna' Agreement
• The agreement is signed between the Bank and the Customer, outlining the terms
and conditions of the production of goods, including: cost price, delivery location,
quantity and quality.
• 2. Agency Agreement
• In the case of Agency Agreement, the Bank will appoint the producer of goods its
Agent to sell the goods. Generally, this documents also sets out the agency fees
schedule (Notice of Appointment).
• 3. Corporate Guarantee
• This agreement is between the Bank and the Customer, guaranteeing the payment
obligation in the case of default. This can include a mortgage or pledges on
receivables.

Bai ina
• Assets are wide ranging under the books of the Banks; table, chairs, pieces of land, ATM
machines, computers, company shares, subdivided properties, and many others.
• The main argument was that the intention of the contract is not to trade (buy & sell) an
asset, but to create a debt to which a margin is built in. This margin is seen as too close
for comfort to the concept of interest on top of a loan.
lease agreement
• Leasing is well known in the west as a mode of finance. There are many reasons why an
agent will opt for leasing rather than borrowing from the bank to purchase the needed
asset. For example:
• (a) It is easier to lease then borrow for short term needs since it mostly do not
require credit evaluation.
• b) Gives more freedom of changing equipment as technology advances.
• (c) Easier to get finance through leasing for companies with lower credit standing.
These kinds of companies may not be able to borrow from banks or the public and
if they do, have to pay high of interest.
• (d) In many cases leasing can be advantageous from taxing point of view. These
advantages may accrue to lessee and sometimes to the lessor since equipment
leased remains the ownership of the lessor and hence can be counted, from tax
point of view, an investment
Ijara/Islamic lease
• Bank/Financial institution- Lessor- owns and transfers a car to lease for Rs 60,000
• Customer/company- Lessee- takes the possession of the car to pay monthly rent of Rs
1,000 for 5 years
• On completion of 5 years’ payments. The bank will resell the car to customer for Rs 1 or
gift it to the customer for free through Waa’d.
Ijara and Conventional Lease 
• Difference between Ijarah and Conventional Lease
• Ijara asset is insured through Takaful
• In case of loss not covered by insurance, lessor/bank under Ijara will bear the
loss- lessee incurs the loss in lease
• In ijara, lessee is responsible for the wear and tears resulting from his use of the
asset
Musharaka- profit loss sharing
• A joint partnership agreement between bank and customer
• To carry out business activities
• Every partner has the right to manage the venture
• Every partner shares in the profit and loss of the venture according to agreed upon ratio
Diminishing musharaka- Islamic Home financing
• The LaRiba bank in the U.S. follows:
 • Let us assume that a potential buyer is interested in purchasing a home worth
$150,000. The buyer approaches an Islamic financial institution for the purchase
of the property and puts 20 per cent of the price ($30,000) as down payment (the
down payment required differs between financial institutions. In some cases it is
as low as 5 percent ).
• The financial institution pays for the other 80 per cent of the price ($120,000).
This agreement results in 20 per cent of the home ownership belonging to the
client and the remaining 80 percent to the financial institution.
Example of payment schedule for a home-loan under Musharaka

Mudaraba-profit loss sharing

• One of the parties manages (manager/mudarib) the venture whereas others (investors/rab
ul maal) contribute capital.
• Manager invests his time and effort to make profit
• Investors contribute capital to run the venture
• Profit is shared between both parties as per agreed terms
• Risk of loss is born by the investors
• Whereas manager losses the time spent on running the business
• Bank deposits are example of rabb ul maal-customer and mudarib-bank
• Fund managers act as mudarib and investors as rab ul maal

Sukuk
• Sukuk represent certificates of equal value that evidence undivided ownership or
investment in the assets using Shariah principles and concepts endorsed by the Shariah
Advisory Council.
• Essentially, when you invest in Sukuk, your money is put into the assets of a project or
investment in order to generate profit. The investor receives a margin of that profit based
on a pre-agreed ratio.
• Mudaraba sukuk-manager/sukuk holders/other partners
• Musharakah sukuk- bank/sukuk holders/other partners
• Ijara sukuk
 • Wakala sukuk
• East Cameron Sukuk

Wakala/Agency
• Islamic agency agreement
• Under the general principles of Islamic Shari'a, a wakala agreement is an agency
agreement whereby the wakil acts as an agent for the muwakkil in accordance with the
provisions of the wakala. An action performed by the wakil as an agent on behalf of the
muwakkil/principal is deemed an action by the muwakkil/principal himself. However, the
wakil is under a duty of care and skill to act diligently when performing his obligations.
• Use of wakala for the purposes of Murbaha is very common
Al-Waad
• Al-Waad is unilateral in nature i.e. a gift, and binds the maker only. Islamic scholars have
different views with regard to the liability imposed upon the parties of the promise.
• Some schools of thought opine that a promise made by a person to another is religiously
binding (Mulzim diyanatan) but not a legal duty (Mulzim qadha’an). This is because Al-
Waad is part of a voluntarily contract (aqd tabarruat). Therefore, the judge has no way of
enforcing this, because the second party has nothing more than a moral right.
• Commonly used with murabaha sale and ijara when the asset is gifted
Attitude towards conventional structures
• Derivatives
• Bank Guarantee
• Documentary Credits
• Customer Guarantee
• Security
• Currency trading
• Set off
• Default
• Debt financing- bonds is prohibited whereas equity financing- stocks/funds is permissible
• Debit cards permissible but credit cards are not permissible
Derivatives trading
What are financial derivatives?
• A derivative product is a financial product that is derived from another financial product
i.e. underlying asset.
 • Types
• Forwards
• Futures and
• Options 
• Purpose
• Hedging to manage risk
• Speculation to generate income
Hedging and speculation
• Shortages are dangerous because they lead to price spikes or rationing of resources.
That's why commodities speculators help to keep an eye on overall production,
recognizing shortages and moving product to places of need (and consequently higher
profit) through intermediaries—the middlemen who use futures contracts to control their
costs.
• Speculators can make a lot of money when they are right, and that can anger producers
and consumers alike. But these outsized profits are balanced against the risks they protect
those same consumers and producers from.
• With all the negativity aimed toward short-sellers and speculators, it's easy for us to
forget that their activities maintain prices, prevent shortages and increase the amount of
risk they undertake
Derivatives under Islamic finance principles
• ISDA and IIFM have jointly designed the ISDA/IIFM Tahawwut (Hedging) Master
Agreement. Under this agreement, derivative trading will be made permissible for
hedging purposes.
Bank Guarantee Documentary Credits
Customer Guarantee
• Bank Guarantees are permitted subject to following conditions i.e.
• Shariah complaint venture- subject matter
• No fee charged for the provision of the guarantee
• Fee for administration and other service can be charged
• Letter of Credit (LC)-guarantee to cover an export/import transaction is also permissible
subject to the conditions mentioned above
• IFIs accept guarantees from customers. IFIs are not obliged to inquire Shariah complaint
arrangements between the customer and the guarantor
Security
• It is permissible for IFIs to require security to cover a financing facility.
• A single asset can be made the subject of a series of successive security interests,
 provided that the situation is disclosed to each party.
• The charge (financier/IFI) has the usual rights of enforcements and is not liable for lose
or damaged to the charged property unless it results from its own negligence or
misconduct.
Currency Trading
• Transaction in spot market are allowed provided that cross-payments are actually made
• If a transaction is to be settled on a future date, it must be settled at the spot rate on that
day and not by reference to pre-agreed rate.
Set off
• Set off in terms of currency exchange is permissible
• Also set off on the event of insolvency is permissible

Default
• Restructuring through increasing interest rate in the event of default is not permissible.
• In the event of default, it is permissible
• To accelerate all remaining payments
• Impose legal cost associated with the default on the debtor and
• Impose charity to penalize for the default

Session 23
• Murabaha- financing arrangement
• Tawarruq- reverse murabaha
• Bai’ Salam- Sale
• Bai’ al’ina- Sale
• Ijara- lease
• Istisna
• Musharaka- partnership
• Mudaraba- partnership
• Sukuk- bonds certificates

Pakistan
• Riba Judgement
 • Charity clause
The UK
• Islamic Investment Company of the Gulf v Symphony Gems
• Beximco Pharmaceuticals Ltd v Shamil Bank of Bahrain
• The Investment Dar Company v Blom Development Bank
• Dubai Islamic Bank v PSI
The US
• Kevin Murray v Fed
• East Cameron Sukuk

Islamic Investment Company of the Gulf v Symphony Gems

• Symphony Gems: Customer to purchase a stock of rough diamonds from a company
based in Hong Kong
• Identified the diamonds and the seller
• Agreed to make payment in installments
• Islamic Investment Co: Financier purchased the diamonds and agreed to receive
payments in installments
• Murabaha between the Islamic Investment Company of the Gulf (IICG) and Symphony
Gems for the sale of rough diamonds from Precious (HK) ltd, Honk Kong
• Symphony was to take possession as an agent for the Islamic Investment Co. Delivery
never occurred and customer refused to make payments after initial installments
• According to Shariah requirement, the payment was to be made on delivery.
• Murabaha arrangement between the parties did not provide for payments being
conditional upon possession.
• Murabaha Agreement was executed which was to be governed by Shariah and English
Law.
• Governing law clause in the agreement stated
‘… this agreement and each purchase agreement shall be governed by and shall be
construed in accordance with English Law’
• At the same time, the agreement was to be governed by English Law. This resulted in
English court applying English contract law.
• The court held that Symphony Gems was under contractual obligation to make payments
 regardless of delivery of possession.

Beximco Pharmaceuticals v Shamil Bank of Bahrain

• Shamil Bank of Bahrain: Purchased pharmaceuticals for Beximco under Murabaha
arrangement.
• Beximco failed to make payments and defaulted. Beximco raised the defence that the
Murabaha agreement was not complaint with Shariah but it was disguised working
capital loan.
• The agreement contained a governing clause i.e.
• ‘Subject to the principles of the Glorious Shariah, this agreement shall be
governed by and construed in accordance with the laws of England’
• The agreement appeared to be governed by both Shariah as well as English Law.
Nonetheless, court of appeal applied English contract law and required Beximco to make
all the due payments
• The court held that
• It is not possible that the same provisions to be governed by the laws of two or
more jurisdiction
• English contract law rule under the Rome Convention requires that a contract will
be governed by a country’s law. Reference to Shariah did not specify which
country’s Shariah law would govern the contract.
• Shariah is a complicated body of law with multiple interpretations. It is not for the
English court to decide which interpretation would apply to this agreement
DIB v PSI
•  The claimant (DIB) brought a claim, against various defendants (PSI) in respect of a debt
for some US $432m, which it contended was due under a restructuring agreement
(murabaha), following an event of default.
• The Commercial Court held that, on the facts, the Bank was entitled to the sums claimed.
• The court followed the precedent settled in Shamil Bank v Beximco Pharmaceuticals
Wakala in Court of Law
• The Investment DAR Company KSCC v Blom
• Blom Developments Bank (Blom) had placed various deposits with the Appellant, the
Investment Dar Company (TID) under Wakala Agreement
• The Wakala Agreement provided that TID would invest the deposited sum in a Shari'a-
compliant manner. 
• At the end of the investment period, TID was obliged to repay the capital sum together
with the agreed anticipated return, regardless of whether or not the capital sum generated
a profit in the hands of TID.  TID failed to fulfil its payment obligations under
 the Wakala Agreement.
• The Wakala Agreement was governed by English law
• Blom sought, and was granted, summary judgment in the amount of the capital sum but
not on the agreed anticipated return.
Islamic Finance Case Law in the US
• National Group for Communication and Computers Ltd v Lucent Technologies Intern.
Inc- NGC v Lucent
• Saudi Basic Industries Corporation v Mobil Yanbu Petrochemical Company Inc and
Exxon Chemical Arabia, Inc - SABIC v ExxonMobil
• Kevin J Murray v Tim Timothy F Geithner and Board of Governors of the Federal
Reserves System- Kevin v Fed
NGC v Lucent
• Plaintiff, National Group for Communication and Computers Ltd (NGC) is a Saudi
Arabian corporation
• Lucent Technologies was defendant
• NGC accused Lucent of breach of contract and therefore claimed damages for loss.
• First, the court established the parties’ intention as to the governing law of the contract
and the US law governing the interpretation of foreign laws was applied.
• Second, the court examined Shariah laws as applicable in Saudi Arabia against the
plaintiff’s claim for damages.
• Then the court conducted an analysis of Shariah law as applicable to the parties’ claims in
Saudi Arabia. Legal principles of Islam on uncertainty (gharrar) are found relevant to the
dispute.
• Since the central dispute among the parties was over the amount of damages to be
awarded to NGC, the court found that under Saudi laws, the damages are awarded for
actual and direct losses.
• Hence the court rejected the claim for damages under Islamic laws
SABIC v ExxonMobil
• Saudi Basic Industries Corporation (SABIC) is appellant in this case whereas Exxon
Chemical Arabia, Inc (Exxon) and Mobil Yanbu Petrochemical Company Inc (Mobil) are
defendants
• There were two separate joint ventures between SABIC and Mobil (the Yanpet joint
venture) and SABIC and Exxon (the Kemya joint venture)
• According to the agreements, the partners in each joint venture would share the overall
profit of the ventures and ‘… no partner would profit at the joint venture’s expense’
• The provision required the partners that they would transfer each other any patent granted
to a third party or licensing or sublicensing right acquired from third party at actual cost.
 • SABIC violated this provision when it acquired Unipol (R) PE technology licensing right
under SABIC/UCC License Agreement and granted sublicenses to Yanpet and Kemya.
The license fee and royalties that SABIC charged from both the Yanpet and Kemya was
higher than it was paying to UCC
• SABIC was charged with the violation of article 6.3 of the joint ventures and committing
the Saudi tort of usurpation. The jury awarded damages to Exxon and Mobil
• Plaintiff then challenged trial court’s interpretation of Saudi law of usurpation (ghasb)
• SABIC challenged the trial judge’s performance of ijtehad. The court found that the trial
judge performed ijtehad keeping in view all the sources of Saudi laws and the method of
performing ijtehad under Saudi laws
• the appellant challenged the trial judge’s eligibility to perform ijtehad. The court rejected
the argument asking, if a US judge is not eligible to conduct ijtehad, ‘….then why did
SABIC choose to file this dispute in a United States Court?’ SABIC v Exxon Mobil, 32.
• First, the US court did not refrain from performing ijtehad which gave sanction to the
provision of contract which requires the disputes be resolved under Islamic Laws. This
ensures legal certainty to IF industry in the US.
• Second, it is important to note that a US judge performed ijtehad with the objective of
imparting justice but it is objected that the judge is not qualified to perform ijtehad under
Islamic law criteria
• Third, the performance of ijtehad by a US judge (being a non-Muslim and non-Islamic
scholar) is considered unacceptable under Islamic Laws due to a lack of relevant
qualification. This highlights the need of Central Shariah Supervisory Board (SSBs)
which can perform the required research on Islamic law and assist the judges in
verification of the Islamic principles over which judges can make their decisions.
Kevin v Fed
• The plaintiff Kevin J Murray accused the US Federal Reserve of promoting Islamic
religious activities through the Emergency Economic Stability Act (EES)A funds to
American International Group Inc (AIG) under the bail-out programme
• AIG provides Shariah Complain Financing (SCF) products through some of its
subsidiaries
• The matter in dispute is the claim that EESA funds were used to support SCF in violation
of Establishment Clause of First Amendment
• The court applied the ‘lemon test’ to this case. According to the ‘lemon test’, a statute is
consistent with the Establishment Clause of the First Amendment when the objective of
the legislation is secular, impact of the legislation is also neutral and, finally, it does not
involve government in religious matters.
• First, the objective of the US government’s EESA funds was to support the US economy
• Second, the impact of EESA funds on AIG did not result in any type of support to the
religion of Islam. AIG SCF activities do not advance religious belief
• The third part of the test required an examination of the US government’s involvement in
 Islam. There was no evidence showing EESA/US government was in any way involved
in examination of the Islamic religious body or monitoring activities between AIG and a
religious body
• AIG’s SCF activities received less than 1% of the total funds granted by EESA to AIG