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During the past few years the need of Finnish companies to understand Russian corporate transactions - especially the intricacies of financing such ventures in Russia - have grown tremendously in importance. The natural position of Finland as a gateway to Russia has also acted as an impetus in the need to structure some cross-border transactions.
As the number and sophistication of Russian corporate and real estate acquisitions grows, so does the need for effective preservation and enforcement of security interests granted to the financiers of such acquisitions. Despite Russian law relating to security being honeycombed with various formalities and restrictions, the main differences compared with the Western jurisdictions are few and nowadays better understood than a few years ago. In this report we examine a few central aspects of these security interests.
Creation of a security interest
Generally, a security interest is created by a contract, as is common in Western jurisdictions. In Russia, security can effectively be given for own or third-party debt. However, one peculiarity of Russian law is that apparently only the creditor may act as the pledgee under the contract. This may be troublesome in syndicated and multi-party financing where the use of a security agent or trustee is normally feasible.
This issue may be resolved in two ways. The first is to use 'parallel debt' clauses in the loan documentation, have the 'parallel debt' creditor act as the sole pledgee and include the relevant distribution provisions in the intercreditor agreement. However, this technique is as yet untested. The second way to resolve the problem is to have all the creditors accede to the security agreement as pledgees. The latter option is possible in case all the creditors are actual creditors, lenders in the respective financing transaction.
A second aspect to note is that the likelihood of a court accepting the security agreement rises in line with the precision of the drafting of the definition of the secured obligations. Therefore, substitution of the broad definition of 'obligations' or 'secured obligations' for any and all debts of whatever nature with, for example, a schedule listing the secured obligations is often recommended. In any case, when the pledgor is not a principal debtor it is vital to attach the underlying obligation as an attachment to the pledge contract. Otherwise there is a probability that the Russian courts will deem the pledge agreement unenforceable against such a pledgor.
Also under Russian law, the manner of perfection of the security interest depends on the type of asset. Pledges of some assets such as mortgages and rights and interests in real estate require state registration of the contract and respective encumbrance over the pledged real estate. Pledges of shares in joint stock companies are perfected by a registration of the pledge in the register maintained by the shareholders' registrar of the company. The manner of carrying out the perfection and the contents of such notices are nowadays unified by the model registration notice of the federal financial markets service.
Unlike with shares in joint-stock companies, there appears to be no absolutely secure means of pledging equity shares in a limited liability company. Therefore, it is advisable to carry out a limited due diligence on the corporate documents of a limited liability company. An enforcement of such security against a third-party purchaser of equity shares very likely leads to a dispute because the third party is unlikely to be aware of the pledge. This emphasises the need to control the pledgor's actions and to carry out a sufficient due diligence review. However, one option for increasing the effectiveness of the pledge of the equity share is registration of amendments to the charter of the limited liability company, stating that the equity share is pledged in favour of the specified pledgee. This will enhance the protection of the pledgee against the sale of the equity share to third parties.
On enforcement of security
Enforcement of Russian security interests is balancing with the general rule of enforcement through a court, and thus through public sale, and the limited acceptability of contractual alternatives of enforcement designed to alleviate the harshness of the main rules. Even though a court should not in practice be able to challenge the validity of a privately arranged enforcement, the pledgor's refusal to cooperate is a real risk and will effectively lead to a court-led procedure and public sale. One possible way of attaining more certainty with the enforcement is to agree on a specific enforcement procedure in the pledge agreement that on the one hand follows the requirements of a public sale and on the other provides means for a private enforcement should the public sale not be successful. For this purpose, the pledge agreement can be supplemented with a fair estimation of the agreed enforcement price that the parties aim to reach in the enforcement.
Taking and enforcing security interests under Russian law does not materially differ from the laws of Western jurisdictions. The central points of concern, as discussed above, cannot usually be eliminated altogether but can be controlled to an extent with careful contractual drafting, especially nin relation to enforcement measures.
Pekka Lehtinen is a partner and Mika Lehtimäki a senior associate at Castrén & Snellman Attorneys in Finland