BILL ANALYSIS
H.B. 3200
By: Brady
05-02-95
Committee Report (Unamended)
BACKGROUND
Chapter 8 of the Texas Business and Commerce Code (Article 8 of the
Uniform Commercial Code) sets the ground rules for transfer of
investment securities (primarily stocks and bonds) and for
resolving disputes that arise when different people claim
conflicting interests in those investment securities. The
revisions in this statute are part of a response to the stock
market break of October, 1987. Studies of that market break
indicated that uncertainty concerning the application of the old
Chapter 8 (Article 8) rules to modern securities transactions
adversely affected the liquidity of the market and placed
significant stress on the securities clearance and settlement
system. Old Article 8 simply had not kept up with modern
securities holding practices. This revision does not so much
change the law as recognize the changes that have already occurred
as a result of developments in the marketplace.
PURPOSE
This bill establishes simple rules on the use of securities as
collateral for loans in order to insure that financial institutions
can be assured of their legal rights in providing the financing to
securities firms that may be necessary to maintain liquidity in
times of market stress. The most important contribution of these
new revisions is to establish a legal framework for the "indirect
holding system." A "direct holding system" is the traditional one
where the owner of a security has a relationship with the issuer,
typically by being the registered or record owner of the security.
In the indirect holding system for which this statute sets a
framework the owner of securities holds them not directly from the
issuers but indirectly by having a "securities account" with a
"securities intermediary" (typically a bank or broker in the
business of buying or holding securities for others).
The owner of such a securities account with a securities
intermediary will be referred to as "an entitlement holder" and
will own a "security entitlement" against the intermediary. This
security entitlement is not a claim to a specific identifiable
thing (e.g., one-thousand identifiable shares of XYZ stock). It is
a package of rights and interests that a person has against the
intermediary and the intermediary's property. The idea that
discreet shares of stock or discreet bonds or other financial
assets might be traced through the hands of different persons is
not a part of the new rules for the indirect holding system.
Instead the fundamental principles are that an entitlement holder's
own securities intermediary has the obligation to see to it that
the entitlement holder receives all of the economic and corporate
rights that comprise the security; and the entitlement holder can
look only to that intermediary for performance of the obligations.
As a part of this system these revised provisions for Article 8
impose on the securities intermediaries the duty to maintain
sufficient assets to cover all entitlements they have created in
favor of their entitlement holders; the duty to obtain payments or
distributions made by the issuer of a financial asset; an
obligation to their entitlement holders to pass along such payments
or distributions; the duty to exercise rights with respect to a
financial asset as directed by the entitlement holder; the duty to
comply with orders given by entitlement holders with respect to
financial assets and the duty to change the entitlement holder's
position into another available form of holding, if so instructed.
The revision of Chapter 8 (Article 8) will also establish new
priority rules for dealing with the competing claims of customers
and creditors of securities intermediaries in the event the
securities intermediary does not have sufficient financial assets
to satisfy the claims of both. Chapter 8 will relinquish the
provisions it has previously had governing the creation and
perfection of security interests in securities. Those provisions
will be put back into Chapter 9 of the Texas Business and Commerce
Code (Article 9 of the Uniform Commercial Code), which deals with
security interests in all types of personal property. In the new
provisions on security interests and the provisions for priority
rules the most significant new concept is "control" over financial
assets.
The amendments to Chapter 9 contained in this bill are designed to
carry out the intent to return the governing law of security
interests in investment securities to that article. "Investment
property" will be a new Chapter 9 term embracing not only
securities and security entitlements but also commodity contracts
and commodity accounts as types of collateral specifically dealt
with in the new Chapter 9 rules. New provisions in Chapter 8 and
Chapter 9 provide a detailed set of rules defining "control" over
investment property including Chapter 8 securities.
The primary objective of this revision of Chapter 8 is to establish
clear and certain legal rules that accommodate existing realities
in the securities market and will accommodate future growth and
change of practices in that market.
RULEMAKING AUTHORITY
It is the committee's opinion that this bill does not expressly
grant any additional rulemaking authority to a state officer,
department, agency or institution.
SECTION BY SECTION ANALYSIS
SECTION 1. Chapter 8, Business and Commerce Code, is revised as
follows
CHAPTER 8. INVESTMENT SECURITIES
SUBCHAPTER A. SHORT TITLE AND GENERAL MATTERS
Subchapter A (Sections 8.101-8.116) -- There are significant
changes and additions to the definitions and terms of Chapter 8 as
described below.
Section 8.101. This section will not be changed. It merely
provides for citing to this statute as Uniform Commercial Code--Investment Securities.
Section 8.102. Definitions. This section is proposed to be
revised to include definitions of "adverse claim," "bearer form,"
"broker," "clearing corporation," "communicate", "entitlement
holder," "entitlement order," "financial asset", "good faith,"
"indorsement," "instruction," "registered form," "securities
intermediary," "security," "security certificate," "security
entitlement," and "uncertificated security."
The proposed new definition of "adverse claim" is not
identical to the definition in the prior 8.302(2). According to
the proposed new definition there are two elements of an adverse
claim: 1) it is a claim of a property interest in a financial
asset; 2) it is an interest such that it violates the claimant's
rights for another person to hold, a transfer, or deal with the
financial asset.
"Broker" is proposed now to be defined by reference to the
definitions of broker or dealer under the federal securities laws,
including banks acting as brokers or dealers even where such banks
would be excluded from the federal securities law definition. This
new definition replaces the functional definition of the prior
statute in 8.303.
The definition of "clearing corporation" is proposed to be
modified, to limit its application to federal reserve banks,
persons who are registered as "clearing agencies" under the federal
securities laws, and other entities subject to a system of
regulatory oversight comparable to that imposed on federal reserve
banks and on such federally registered clearing agencies.
The definition of "communicate" is added to assure that
Article 8 rules are sufficiently flexible to adapt to changes in
information and communication technology.
"Entitlement holder" is a new term used to designate those who
hold securities through intermediaries in the indirect holding
system as explained in the background materials above.
"Entitlement order" is added to define a notification
communicated to a securities intermediary directing a transfer or
redemption of a financial asset and is analogous to terms
"indorsement" and "instruction" for the direct holding system.
"Financial asset" is a new definition to set the scope of the
indirect holding system rules. These rules of Part 5 of Revised
Article 8 will apply not only to "securities" held through
intermediaries but also to "financial assets" held through
intermediaries. The broader definition includes shares,
participations, interests, or obligations which may not meet the
definition of "security" but which are commonly dealt in or traded
in financial markets or which the parties have agreed are to be
treated as financial assets under Article 8.
The term "good faith" will now be defined specifically for
purposes of Article 8. The new definition will be essentially the
same as in existing Article 2 and the revisions of Articles 3 and
4. It includes the subjective content of honesty in fact and the
objective standard of observance of reasonable commercial standards
of fair dealing. Its only function in Article 8 is to give content
to the Section 1.203 requirement that every contract or duty under
the Uniform Commercial Code carries with it an obligation of good
faith in its performance or enforcement.
The definition of "indorsement" is adapted from the existing
definition in 8.308 and from revised Section 3.204. It is the
signature made on the securities certificate (or separate document)
to transfer or redeem it.
"Instruction" is the notification communicated to the issuer
of an uncertificated security directing transfer or redemption.
"Instruction" is the uncertificated security analogue of
"indorsement."
"Securities intermediary" is a person that in the ordinary
course of its business maintains securities accounts for others and
is acting in that capacity. The definition is substantially the
same as the definition of "financial intermediary" in prior Section
8.313(4). ("Securities account" is defined in Section 8.501.)
"Security" is defined substantially the same as in the prior
Section 8.102. Securities are no longer described as certificated
or uncertificated, but instead as being represented by a security
certificate or of a type whose transfer is registered on the
issuer's books. There is a "opt-in" provision that parties may
agree that a particular medium for investment is to be considered
a security governed by Article 8.
"Security certificate" means the paper certificate that has
traditionally been used to embody the underlying interest in a
security.
"Security entitlement" describes the package of personal
rights and property interests of a person holding securities or
financial assets through a securities intermediary in the indirect
holding system as explained in the background portion above.
"Uncertificated security" applies to securities evidenced only
by the issuer's records.
Bearer form" and "registered form" continue to be defined
substantially as in the prior Article 8.
Section 8.103. This section provides further rules for
distinguishing between "securities" and "financial assets."
Ordinary corporate stock is a security, whether or not it is traded
on an exchange or market. Investment vehicles offered under the
Federal Investment Company Act of 1940 are securities. Such
securities are defined as an "investment company security." That
definition excludes insurance policies, endowment policies or
annuity contracts issued by insurance companies. Partnership
interests or limited liability company interests would not be
securities unless they were dealt in or traded on securities
exchanges or markets or unless the parties expressly agreed to
treat them as such. But an interest in such a partnership or a
limited liability company would be a "financial asset" as would
negotiable instruments if they are held in a securities account.
A stock option is a financial asset but not a security.
A commodity contract is neither a security nor a financial asset.
Therefore commodity contracts are excluded from the operation of
Article 8.
Section 8.104. This section lists the ways in which interests
in securities or financial assets may be acquired under Article 8.
One acquires an interest by being a purchaser who takes delivery of
a security certificate, a purchaser who acquires an uncertificated
security through having it properly registered, or by acquiring a
security entitlement under the indirect holding concepts in Part 5
of Article 8. One acquires an interest in a financial asset
through a security entitlement.
Section 8.105. This section specifies when a person has
notice of an adverse claim to a security or a security entitlement:
actual knowledge, deliberate avoidance of information, or violation
of a legal duty to investigate.
(b) makes it clear that mere knowledge one is dealing with a
representative will not constitute notice of an adverse claim even
if the representative is in fact acting improperly. On the other
hand, knowledge that the proceeds will be applied for the
individual benefit of the representative is sufficient to
constitute notice of an adverse claim.
(c) indicates when purchasers of stale securities are charged
with notice of an adverse claim.
(d) also provides for notice of an adverse claim if the
security certificate has language indorsed on it such as "for
collection" or another statement that would indicate some other
person has an interest in the security. This provision permits an
owner of a security certificate safely to send the security in for
redemption or exchange entrusted to the mail or to someone else as
long as it is indorsed with or contains such restrictive language.
(e) makes it clear that filing a financing statement under
Article 9 does not give notice of an adverse claim.
Section 8.106. This section defines the term "control", a
concept that plays a key role in dealing with the rights of
purchasers including secured parties. "Control" means that the
purchaser, including a secured party, has taken whatever steps are
necessary, given the manner in which the securities are held, to
place itself in a position where it can have the securities sold
without any further action from the owner.
(a) and (b) provide that a purchaser has control of a security
certificate if it has been delivered to the purchaser and it is
either in bearer form or registered to the purchaser, or if it is
indorsed to the purchaser or indorsed in blank.
(c) provides for control of an uncertificated security by
having it registered to the purchaser or by having the issuer agree
to act on the instructions of the purchaser even though another
might remain as the registered owner.
(d) deals with control over a security entitlement. One gains
control by becoming an "entitlement holder" or where the securities
intermediary through which a security entitlement is held agrees to
act on "entitlement orders" originated by the purchaser.
(e) specifies that a "securities intermediary" has control
when one of its entitlement holders grants the securities
intermediary an interest (such as an Article 9 security interest)
in the security entitlement.
(f) makes it clear a purchaser can have control even if the
registered owner or entitlement holder retains certain significant
rights in the security or entitlement.
(g) makes it clear that an issuer or a securities intermediary
acts wrongfully in making the agreements referred to in Subsections
(c) and (d) to comply with orders originated by the purchaser,
unless the registered owner or entitlement holder has consented.
Section 8.107. This section is necessary to specify when an
indorsement, instruction or order is effective. The general rule
as stated in Subsection (a) makes it effective if it is made by the
"appropriate person," or if it would be effective under ordinary
principles of agency law, such as when a duly authorized agent is
acting on behalf of the "appropriate person" or where the
"appropriate person" would be precluded from challenging the
effectiveness of the action of another.
"Appropriate person" is defined to include the person actually
designated as the one entitled to the securities certificate,
uncertificated security or security entitlement and the legal
representative of that person if he or she has died or otherwise
lacks capacity.
Section 8.108. This section specifies the warranties made by
persons who transfer securities in the direct holding system. The
warranties are quite similar for transfers of a security
certificate and for transfers of an uncertificated security: the
genuineness of the certificated security or validity of the
uncertificated security; that there is no adverse claim; that the
transfer does not violate any restriction on transfer; that the
transfer is effective and rightful; and that the transfer or
instruction to transfer is made by an appropriate person or by one
duly acting on behalf of an appropriate person. In addition for a
transfer of a security certificate there are warranties that the
transferor does not know of any fact that might impair its validity
and that it has not been materially altered. For an instruction to
register a transfer of uncertificated securities there are the
warranties that the purchaser will be entitled to registration of
the transfer and that the transfer will be registered by the issuer
free from all liens, security interests restrictions and claims,
other than those specified in the instruction. The section also
specifies the warranties on transfer to a purchaser for value
without the origination of an instruction, warranties to the issuer
in the case of an indorsement where a security certificate so
indorsed would be presented to the issuer, and warranties that go
to the issuer with an instruction for registration of a transfer of
an uncertificated security.
Section 8.109. This section specifies the warranties on
origination of an entitlement order to a securities intermediary,
on delivery of a securities certificate to a securities
intermediary and on delivery by a securities intermediary of a
security certificate to an entitlement holder. All of these are
warranties arising in the indirect holding system. In the case of
a person originating an entitlement order to a securities
intermediary the two warranties are that the order is made by an
appropriate person or a duly authorized agent acting on behalf of
an appropriate person, and that there is no adverse claim to the
security entitlement. In the other two cases covered the
warranties are those made in Section 8.108 (a) or (b) depending on
whether the security is an uncertificated security or one in the
form of a security certificate.
Section 8.110. This section provides which jurisdiction's law
will govern various transactions in investment securities.
Basically the law of the jurisdiction of the issuer governs in
transactions involving the issuer as such, validity of the
security, effectiveness of registration of transfer and adverse
claims to the security. The law of the jurisdiction of the
securities intermediary governs in transactions involving the
securities intermediary as such.
"Issuers jurisdiction" is defined as the jurisdiction where
the issuer is organized unless that jurisdiction permits the issuer
to specify another jurisdiction's law, and the issuer has so
chosen. The second sentence of Subsection (d) empowers issuers
organized in this state (Texas) so to choose the law of another
jurisdiction as governing law. The reason for this is the idea
that issuers should be able to rely on the law of one jurisdiction
governing their rights and duties rather than being potentially
subject to law of a number of different jurisdictions where owners
of the securities might reside.
Similarly (e) permits the securities intermediary and its
entitlement holder to agree that the law of a particular
jurisdiction will govern their rights and duties. If there is no
such agreement there are three "default" jurisdictions whose law
would govern in descending order: first, the jurisdiction
identified in the agreement as the one where the securities account
is maintained; second, the jurisdiction in which is located the
office identified on the account statement, if the agreement itself
does not specify that the account will be maintained at a
particular office; and third, the jurisdiction in which is located
the chief executive office of the securities intermediary if no
jurisdiction is arrived at by any of the other provisions.
Section 8.111. This provision empowers "clearing
corporations" (as defined in Section 8.102) to adopt rules
governing their participants which would control over the
provisions of this act including controlling parties who have not
consented to that rule. The rationale here is that securities
settlement practices are known to develop rapidly and in
unforeseeable directions, so the Article 8 rules need to be both
flexible and adaptable to changing commercial practices. Otherwise
these rules might come to be obstacles to efficient developments in
securities practice. Furthermore, it is not possible in a general
statute to specify in detail all the rules that clearing
corporations would need for their clearing and settlement
operations. This provision will validate rules of clearing
corporations even if they conflict with other provisions of this
"Act," meaning the entire Uniform Commercial Code (Title 1, Texas
Business and Commerce Code), not just Article 8. This is necessary
because some clearing corporation rules might, for example, deal
with matters that otherwise would be governed by Article 9.
While this provision may at first glance seem remarkably
generous in the power conferred on clearing corporations, it should
be remembered that the definition of "clearing corporation" in
Section 8.102 covers only federal reserve banks, registered
clearing agencies under federal securities laws and others subject
to comparable regulation.
Section 8.112. This provision specifies when unsecured
creditors seeking to use legal process to levy on or attach an
interest of a debtor in a security will have succeeded. In the
case of security certificates, legal process by the creditor will
not be effective until the officer executing the legal process has
obtained possession of the security certificate. In the case of an
uncertificated security the legal process will be effective only
when it is served on the issuer. In the case of a security
entitlement the process will be effective only when served on the
securities intermediary with whom the debtor's securities account
is maintained, including the situation where the account is
maintained there in the name of a secured party.
Section 8.113. This section reverses the prior law in Section
8.319. Henceforth no signed writing or authenticated record of a
contract or modification of contract or of a sale or purchase of a
security will be required in order for it to be enforceable. This
is so even if the contract or modification is not capable of
performance within one year of its making. With the increased use
of electronic means of communication, any requirement for a signed
writing or authenticated record is unsuited to modern business
reality and a potential obstacle to development of modern
commercial practices in the securities business.
Section 8.114. This section adapts to security certificates
the presumptions of signature validity and the burdens of proof
currently used in the article on negotiable instruments. While a
signature on a security certificate or indorsement is admitted
unless specifically denied, the ultimate burden of establishing
effectiveness is on the party claiming under the signature, but
there is a presumption that the signature is genuine or authorized.
If the validity of the signature is admitted or established the
holder of that certificate is entitled to recover on it unless the
defendant establishes a defense to that claim. In that event the
plaintiff claiming under the certificate or indorsement has the
ultimate burden of establishing that they or some person under whom
they claim is a person against whom the defense or defect cannot be
asserted.
Section 8.115. This section provides protection to securities
intermediaries and other agents or bailees from liability as
innocent converters. As long as the securities intermediary or
other broker or bailee has dealt with the property pursuant to an
effective entitlement order, they are not liable to a person having
an adverse claim, unless they are acting in collusion with the
wrongdoer or unless they took action after being served with
injunction or order from a court and had reasonable opportunity to
act on that legal process. This protection is consistent with
general tort law protecting agents or bailees in similar cases.
Section 8.116. This section is intended to make two points
clear. First, that a securities intermediary that receives a
financial asset and establishes a security entitlement in respect
thereof in favor of an entitlement holder is a purchaser of the
financial asset. Second, that by establishing a security
entitlement in favor of an entitlement holder a securities
intermediary gives value for any corresponding financial asset that
the securities intermediary receives or acquires from another
party, whether the intermediary holds directly or indirectly.
Securities intermediaries are thus purchasers for value even though
the value is in the form of incurring an obligation to their own
entitlement holder.
Subchapter B (Sections 8.201-8.210) -- The provisions in this
Subchapter are substantially unchanged from present law. The
principal changes in language are conforming changes reflecting the
deletion of the 1978 provisions relating to registered pledges and
statements of uncertificated securities.
Section 8.201. This section describes who is an "issuer" of
a security. This is important because purchasers for value without
notice acquire certain rights against issuers.
Section 8.202. This section spells out the issuer's
responsibility to and the issuer's defenses against a purchaser for
value who takes without notice. Such a purchaser is entitled to
enforce the property rights represented by a security certificate
according and subject to the terms stated on that security
certificate and incorporated in those terms by adequate reference
to other documents or sources. Such a purchaser of an
uncertificated security also takes according and subject to terms
stated in the source document pursuant to which the security is
issued. Generally securities are valid against the issuer when in
the hands of a purchaser for value without notice.
Section 8.203. This section specifies that one who acquires
a security more than a year after it has matured or been called or
become redeemable or exchangeable takes with notice of any defect
in its issue or any defense of the issuer. Similarly a purchaser
has notice of any such defect or defense if the purchaser takes the
security more than two years after the date set for surrender or
presentation or on which the performance became due.
Section 8.204. This section provides that a restriction on
transfer imposed by the issuer of a security is not effective
against a person who has no knowledge of the restriction unless the
restriction is noted on the security certificate or the registered
owner of an uncertificated security has been notified of the
restriction. Again this provision is in keeping with the policy
that a purchaser who takes delivery of a security should be
entitled to rely on its stated terms.
Section 8.205. This section states when an unauthorized
signature on a security certificate would nonetheless be effective
in favor of a purchaser for value without notice of the lack of
authority. It would be effective when the person signing had been
entrusted by the issuer with the responsibility to sign the
certificate or when the signing was done by an employee of the
issuer entrusted with handling of the certificate. The rule here
is in keeping with the general policy that the issuer should have
the responsibility to avoid entrusting the securities to
untrustworthy agents or employees. The issuer is in a better
position than the purchaser to determine the trustworthiness of
such personnel.
Section 8.206. In case a security certificate is issued in
valid form but with blank spaces the issuer is responsible to a
purchaser for value without notice even if the blanks are filled in
incorrectly. This is in keeping with the policy that the issuer is
in the best position to avoid any loss from such an occurrence by
issuing only certificates that are correctly filled in. The
section states the complimentary rule that a security certificate
that has been correctly issued and then improperly altered is
enforceable against the issuer only according to its original
terms. In this later case there is no reason to charge the issuer
as opposed to the person dealing with the defrauder, because the
issuer has done everything it can to protect the purchaser by
issuing the security initially in proper and complete form.
Section 8.207. This section specifies that it is the issuer's
right to treat the registered owner of a security as the person
entitled to exercise all the rights of an owner until there has
been due presentation for registration of a transfer of a security.
Section 8.208. This section states the warranty made by a
person signing a security certificate as an authenticating trustee,
registrar, transfer agent, or the like.
Section 8.209. This section specifies that any lien an issuer
might claim upon a security represented by a security certificate
is valid against a purchaser only if the lien is noted
conspicuously on the certificate. Again this is in keeping with
the policy that purchasers should not be subject to terms not
indicated on the face of the security. Under this section such a
lien of the issuer would not be valid against the purchaser even if
the purchaser had knowledge, unless the lien were conspicuously
noted on the certificate.
Section 8.210. This section specifies the rights of
purchasers of securities which have been issued in excess of the
amount that a corporate issuer has power to issue. The purchaser
is either entitled to a refund of the purchase price with interest
or to be provided with an identical security that would not
constitute over-issue if such is reasonably available for the
issuer to purchase. This section protects the corporate law
concept that prohibits the issuance of corporate securities in
excess of the amount authorized in a corporate charter.
Subchapter C (Sections 8.301-8.307) -- The substantive
provisions in Revised Subchapter C are essentially equivalent to
provisions contained in present law. There are, however, some
changes in organization and drafting technique. Perhaps the most
significant such change is that Revised Chapter 8 states the rules
that protect purchasers against adverse claims without using the
phrase "good faith" and uses the new term "protected purchaser" to
refer to purchasers in the direct holding system who are protected
against adverse claims. See Section 8.303. The addition of the
new rules on the indirect holding system in Subchapter E makes
unnecessary the rather elaborate provisions in Subchapter C of the
present law, such as those in Section 8.313, that sought to fit the
indirect holding system into the conceptual structure of the direct
holding system.
Section 8.301. This section specifies when a security has
been delivered to a purchaser or a purchaser's representative.
This is significant because a purchaser cannot acquire a direct
interest in a security until there has been a delivery. In keeping
with the concept of delivery as applied with deeds and instruments,
delivery of a security certificate requires either a change of
possession or an acknowledgment by a person in possession that
person now holds for the purchaser.
This section also applies the concept of delivery to an
uncertificated security. For such a security delivery requires
registration to the purchaser or to another person acting on behalf
of the purchaser or that an existing registered owner acknowledges
that it holds for the purchaser. Though "delivery" as applied to
uncertificated securities cannot involve the traditional change of
possession, there is an advantage to using the same terminology to
refer to the steps necessary to implement a transaction involving
either an uncertificated security or a security represented by a
security certificate.
Section 8.302. This section states the familiar "shelter"
principle that a purchaser of a security acquires all the rights in
the security that the transferor had or had the power to transfer.
Section 8.303. This section specifies that a "protected
purchaser" acquires its interest in the security free of any
adverse claim. Besides giving value and being without notice of
any adverse claim, a "protected purchaser" must obtain control of
an uncertificated security or a security certificate. This
distinguishes the protected purchase from a purchaser for value
without notice dealt with in sections 8.202, 8.205 and 8.206. The
concept of a protected purchaser replaces the concept from the
prior version of a bona fide purchaser. The advantage of the new
terminology is to avoid the confusion about when one is in good
faith as opposed to when one takes without notice of an adverse
claim.
Section 8.304. This section provides that indorsements may be
either in blank or in the form of a special indorsement, specifying
to whom a security certificate is to be transferred. In these
particular details it follows the concepts from Article 3 dealing
with negotiable instruments. This section departs from the
concepts dealing with negotiable instruments by validating an
indorsement of the security certificate only for purpose of
transferring a portion of the shares specified in that certificate.
A completed transfer requires both indorsement and delivery of the
security certificate. The section specifies the effect of a
delivery without indorsement and conversely of an indorsement where
there has yet been no delivery.
Section 8.305. This section deals with an "instruction," a
notification to the issuer of an uncertificated security to
register a transfer. If the instruction is incomplete, though
originated by an appropriate person, the issuer may rely on it as
completed by anyone even though completed incorrectly. This places
the burden on the originator of instructions to prevent the
possibility of such loss by originating them in complete form.
Section 8.306. This section states the warranties of persons
guaranteeing signatures, indorsements, or instructions. These
warranties are made to protect persons taking or dealing with the
security certificate or uncertificated security in reliance on the
guarantee.
Section 8.307. This section provides for a duty of the
transferor of a security to supply the purchaser with formal
requirements for registration of the transfer such as signature
guarantees, proof of authority, transfer tax stamps, and the like.
This duty applies even if the transfer is not for value, but in
that case the transferee is required to pay the expenses.
Subchapter D (Sections 8.401-8.407) -- Most of the provisions
in Subchapter D are substantially unchanged from present law.
There are two principal changes. First, the provisions of present
law imposing liability on an issuer who registers a transfer with
notice of an adverse claim have been deleted. Under Chapter 8, a
claimant who seeks to prevent an issuer from registering a transfer
must obtain a court order; merely sending notice to the issuer
would not suffice. See Section 8.403. Second, the statutorily
mandated requirements in Section 8.408 of the present statute
concerning statements of uncertificated securities have been
deleted.
Section 8.401. This section states when the issuer has a duty
to register a transfer of a security. The purpose of the section
actually is to protect the issuer against a claim that the issuer
has wrongly refused to register a transfer. If the pre-conditions
are satisfied so that there is a duty of the issuer to register a
transfer and the issuer does not so register the transfer, this
section also states that the issuer is liable for such failure to
the person seeking the registration of transfer.
The rules stated in Part 4 of these revisions (8.401 through
8.407) are essentially the same as in the previous statute.
Section 8.402. Since an issuer is absolutely liable for
wrongful registration of a transfer if the indorsement or
instruction is ineffective, this section provides that the issuer
can require certain assurances from the person seeking registration
of the transfer that the indorsement or instruction is genuine or
authorized. The assurances include a signature guarantee or
appropriate evidence of authority.
Section 8.403. This section provides protection to the issuer
where the issuer has received an effective indorsement or
instruction for registration of a transfer and the issuer has also
been notified by another person that a registration of transfer
would be wrongful. At the same time the section provides
protection for true owner of the security whose security
certificate may have been lost or misplaced or stolen and who needs
a way to communicate to the issuer that the security certificate is
missing and that any registration of a transfer would violate the
rights of this registered true owner. The registered owner makes
a demand on the issuer that the issuer not register a transfer. If
another person then requests a transfer, the issuer is protected by
being entitled to require from the registered owner either an
indemnity bond to protect the issuer or that the registered owner
obtain a restraining order or injunction from a court.
Section 8.404. This section provides that an issuer is liable
for wrongful registration of a transfer of a security. Such a
registration of transfer is wrongful when pursuant to an
ineffective indorsement or instruction, when the issuer did not
properly comply with the previous section on demands that the
issuer not register a transfer or when the registration of transfer
would violate a court order, or when the issuer is in collusion
with the wrongdoer. The issuer must provide the person wronged an
identical security or pay damages in the amount of the value of
such a security.
Section 8.405. This section enables the owner of a security
to obtain replacement of a lost, destroyed or stolen certificate
providing that reasonable requirements are satisfied and a
sufficient indemnity bond is provided. This section also protects
the issuer in case the lost or stolen security certificate comes
into the hands of a protected purchaser who presents it for
registration of transfer. In that event the issuer may recover the
reissued certificate from the person to whom it was reissued or
from a subsequent purchaser other than a protected purchaser and
may also recover under the indemnity bond provided by the owner.
Section 8.406. This section provides that an owner who fails
to notify the issuer within a reasonable time after the owner knows
or has reason to know of the loss or theft of a security
certificate is precluded from asserting against the issuer that a
registration of transfer is wrongful or that an indorsement is
forged or unauthorized.
Section 8.407. This section provides that transfer agents,
registrars and similar agents for an issuer are liable both to the
issuer and to the owner of a security for wrongful refusal to
register a transfer or for a wrongful registration of a transfer as
the case may be anytime they are acting within the scope of their
respective functions and where the issuer itself would be liable.
Subchapter E (Sections 8.501-8.511) -- This new Subchapter
contains the operative provisions for describing the legal
relationships of the indirect holding system.
Section 8.501. This section defines "securities account," the
account which a person maintains with a securities intermediary.
The section also explains when a person acquires a securities
entitlement against a securities intermediary. These concepts are
the key concepts in the indirect system of holding financial
assets.
Section 8.502. This section protects an entitlement holder of
a security entitlement who acquired for value and without notice of
an adverse claim from such an adverse claim. This section and its
rule play the same role in the indirect holding system as the
concept of protected purchaser plays in the direct holding system
-- to protect purchasers for value without notice of adverse
claims.
Section 8.503. This section specifies that to the extent
necessary to satisfy all its customers' claims, all units of a
security held by a security's intermediary are held for the
entitlement holders, are not property of the securities
intermediary, and are not, with certain exceptions, subject to
claims of the security intermediary's creditors. This sections
also makes clear that this property interest of the customer is an
interest held in common by all entitlement holders who have
entitlements to a particular security or other financial asset,
each having a pro rata interest in whatever positions in that
financial asset the intermediary holds. Additionally this section
specifies when an entitlement holder's property interest in a
particular financial asset might be enforced against a purchaser of
that financial asset from the securities intermediary.
Section 8.504. This section expresses one of the key elements
of the relationships of the indirect holding system -- that a
securities intermediary has a duty to hold financial assets
corresponding to the security entitlement of its entitlement
holders. Some of the language here is taken directly from
corresponding language of federal securities law. Subsection (b)
specifies that it is wrongful for a securities intermediary to
grant a security interest in positions in financial assets that it
needs to have unencumbered in order to satisfy its customers
claims, unless otherwise authorized by the customers.
Section 8.505. Since another one of the core elements of the
securities account relationship is that the securities intermediary
passes through to the entitlement holders the economic benefits of
ownership of financial assets such as payments and distributions
made by the issuer, this section specifies the duty of the
securities intermediary to take appropriate action to obtain any
payments or distributions made by the issuer. Once those payments
or distributions have been received by the securities intermediary,
it is obligated to its entitlement holder for such payments or
distributions.
Section 8.506. Since the securities intermediary is the
entity with the power to exercise corporate and other rights as a
result of holding the security directly from the issuer, this
section specifies the duty of the securities intermediary to
exercise those rights as directed by the entitlement holder.
Section 8.507. This section makes it clear that the
securities intermediary has a duty to comply with entitlement
orders originated by the appropriate person, usually the
entitlement holder. The purpose here is to facilitate rapid
transfers of securities positions, one of the main benefits of the
indirect holding system. This section also protects the securities
intermediary by providing that the duty of compliance with an
entitlement order is conditioned on the intermediary having a
reasonable opportunity to insure itself that the order is genuine
and authorized. If the intermediary transfers a financial asset
pursuant to an ineffective entitlement order, Subsection (b) spells
out the liability of an intermediary to the entitlement holder.
Section 8.508. This section provides yet another duty of the
securities intermediary -- to change an entitlement holder's
position into any other form of holding for which the entitlement
holder is eligible and which the entitlement holder requests or to
transfer the entitlement holder's position to an account at another
intermediary.
Section 8.509. This section avoids any conflict between the
general statement of duties of the securities intermediary in
Sections 8.504 through 8-.08 and more particularized statements of
the duties of such an intermediary under regulatory law promulgated
pursuant to other statutes. Where there are no such specific
standards for the performance of those duties this section requires
the securities intermediary to perform its duties and requires the
entitlement holder to exercise rights in a commercially reasonable
manner.
Section 8.510. Subsection (a) of this section protects the
purchaser of an interest in a security entitlement who gives value,
obtains control and does not have notice of an adverse claim
against that adverse claim. This will primarily operate to protect
persons who take security interests in security entitlements and
obtain control, even if they do not themselves become entitlement
holders. Subsection (b) provides a limited version of the "shelter
principle" to the indirect holding system. It will primarily
protect donees from adverse claims that could not have been
successfully asserted against the entitlement holder donor.
Subsection (c) specifies a priority rule for cases where an
entitlement holder transfers a conflicting interest in the same
security entitlement to different purchasers other than secured
parties.
Section 8.511. This section sets out priority rules for
circumstances in which a securities intermediary fails leaving an
insufficient quantity of securities or other financial assets to
satisfy the claims both of its entitlement holders and of creditors
to whom it has granted security interests in the financial assets.
The entitlement holders prevail unless the secured creditor has
control over the financial asset. Subsection (c) sets out a
special rule to enable clearing corporations to complete
settlements when the clearing corporations have also engaged in
obtaining secured financing.
SECTION 2. Section 9.103(f), Business and Commerce Code.
This amendment to Chapter 9 is necessary to determine which state's
law governs perfection of a security interest in investment
property. Attachment and perfection of security interests in
investment property will be returned to Chapter 9, which otherwise
deals with attachment and perfection of security interests in all
types of personal property. The approach here is to identify the
jurisdiction whose law governs on the basis of the same principles
used in the proposed revisions in Chapter 8 to determine the
outcome of other questions concerning that form of investment. For
security certificates the law of the jurisdiction where the
certificate is located governs. For uncertificated securities the
law of the issuer's jurisdiction governs. For security
entitlements and securities accounts the law of the securities
intermediary's jurisdiction governs. For commodity contracts and
commodity accounts the law of the commodity intermediary's
jurisdiction governs. Since commodity contracts and commodity
accounts are not governed by Chapter 8, the rules used here are
merely analogous to those used in Chapter 8.
SECTION 3. Section 9.105, Business and Commerce Code. These
amendments are to the Chapter 9 definitions of "goods," and
"instruments," to make it clear that investment property is
excluded from both of these defined terms.
SECTION 4. Section 9.106, Business and Commerce Code. This
amendment makes it clear that investment property is also excluded
from the definition of general intangibles.
SECTION 5. Subchapter A, Chapter 9, Business and Commerce
Code, is amended by adding Sections 9.115 and 9.116.
Section 9.115. This provision gives a definition of
"investment property" as a new broad category of collateral that
includes securities and commodity futures. The definition is
useful to distinguish investment property from other general
categories of collateral such as goods, instruments, or general
intangibles. As a part of defining "investment property" this
section also defines "commodity account," "commodity contract,"
"commodity customer," and "commodity intermediary."
Since perfection of a Chapter 9 security interest may be by
"control," this section states that for Chapter 9 purposes control
of a securities certificate, uncertificated security, or security
entitlement has the meaning specified in Chapter 8. This section
also gives a definition of control over a commodity contract in a
way analogous to the rules for similar purposes in Chapter 8.
This section goes on to specify rules for perfection of a
security interest in investment property and to state priority
rules for resolving conflicts between security interests in the
same investment property. The general rule there is that control
primes the alternative of filing to perfect.
Section 9.116. This provision establishes two special rules
for security interests in investment property in order to provide
certainty in the securities transfer settlement system. Subsection
(a) provides that a securities intermediary has a security interest
in a security entitlement credited to a person's securities account
until the securities intermediary has actually received good funds
in payment for the financial asset purchased and represented by the
security entitlement. This provision is merely a codification and
adaptation to the indirect holding system of the "broker's lien"
which has long been recognized in existing law. If the securities
intermediary, for example, takes a check in payment for securities
to be acquired, the intermediary has a security interest against
the security entitlement until the check is finally paid. The
security interest created here arises automatically and is
automatically perfected.
Subsection (b) also creates an automatically attaching and
automatically perfecting security interest for persons who deliver
securities certificates or other financial assets in physical form
until the agreed purchase price has been received.
SECTION 6. Section 9.203(a), Business and Commerce Code.
This amendment simply adds references to Sections 9.115 and 9.116
to the general provision here which states the basic requirements
for a security interest to attach and be enforceable.
SECTION 7. Section 9.301(a), Business and Commerce Code.
This amendment spells out a general rule that an unperfected
security interest is subordinate to the rights of a transferee of
an investment property (other than a secured party) to the extent
the transferee gives value without knowledge of the security
interest and before it is perfected.
SECTION 8. Section 9.302(a), Business and Commerce Code.
This amendment simply adds to the list of 9.302 the concept that a
security interest in investment property may be perfected under
Section 9.115 without filing.
SECTION 9. Section 9.03(a) Business and Commerce Code.
Conforms to the Chapter changes.
SECTION 10. Section 9.304(a), (d), and (e), Business and
Commerce Code. This amendment simply conforms the terminology of
this section to the new terminology used for securities in
Chapter 8.
SECTION 11. Section 9.305, Business and Commerce Code. This
amendment simply conforms the terminology of this section to the
new terminology used for securities in Chapter 8.
SECTION 12. Section 9.306(a) and (c), Business and Commerce
Code. The first part of this amendment makes it clear that
proceeds of collateral includes any payments or distributions made
with respect to investment property. This would especially make it
clear that dividends, either cash or stock, are proceeds. The
second part of this amendment specifies when the security interest
in the proceeds would continue to be perfected after ten days from
its attachment.
SECTION 13. Section 9.309, Business and Commerce Code. This
amendment simply conforms the terminology of this section to the
new terminology used for securities in Chapter 8.
SECTION 14. Section 9.312, Business and Commerce Code. Since
Section 9.312 states the general rules for priority among
conflicting security interests the amendments here merely provide
a reference back to Section 9.115 for the priority rules when
dealing with a security interest in investment property.
Savings Clause. This is a transition provision designed to
make it clear that adoption of these new statutory provisions
should not have any effect on actions or proceedings already
commenced before the effective date of the new provisions.
Additionally this clause would provide protection for a secured
party, who has perfected a security interest in securities under
the prior text of Chapter 8 by giving notice to an intermediary but
without obtaining an agreement from the intermediary that would be
sufficient for control under the new rules. This provision is
designed to give such a secured party a four-month grace period of
continuous perfection during which the secured party could now file
under the new provisions in order to continue perfection more than
four months.
SECTION 15. Section 1.105, Business and Commerce Code. This
is an amendment to the general choice of law provision in Chapter
1 to validate the choice of law provisions of Section 8.110.
SECTION 16. Section 1.206 (b), Business and Commerce Code.
Conforms to the changes made under this subchapter.
SECTION 17. Section 5.114(b), Business and Commerce Code.
Conforms to the changes made under this subchapter.
SECTION 18. Section 4.104(a), Business and Commerce Code. If
H.B. 1728 or S.B. 1406, Acts of the 74th Legislature, Regular
Session, 1995 is enacted and takes effect, this section is amended
to include the amended definitions of "account", "banking day",
"clearing house", "customer", "documentary draft", "draft",
"drawee", "item", and "settle" to conform with the definitions
stated under H.B. 1728 or S.B. 1406.
SECTION 19. Chapter 33, Business and Commerce Code is
repealed.
SECTION 20. Establishes the effective date of this Act as
September 1, 1995.
SECTION 21. This Act does not affect an action or proceeding
commenced before this Act takes effect.
SECTION 22. Emergency clause.
SUMMARY OF COMMITTEE ACTION
H.B. 3200 was considered by the Committee on Business and Industry
in a public hearing on May 2, 1995. Testifying in support of the
bill was W. David East, representing himself. No one testified
against or on the bill. H.B. 3200 was left pending before the
Committee. H.B. 3200 was reconsidered by the committee without
objection. H.B. 3200 was reported favorably, without amendment
with the recommendation that it do pass and be printed, and sent to
the Committee on Local and Consent Calendars, by a record vote of
7 (seven) ayes, 0 (zero) nays, 0 (zero) present-not-voting, 2 (two)
absent.