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The explanatory material accompanying the Depotgesetz 1937 states that the legislature also intended to give statutory support to the transfer system which was already in operation.12 Until then, the central depositories established by the German banks operated on the basis of the general terms of business of the banks involved. The Depotgesetz 1937 permitted the creation of central depositories by way of statutory instruments. Following the adoption of the Depotgesetz 1937 statutory instruments were enacted that conferred the status of a central depository on the already existing institutions.

The Depotgesetz 1937 applied in Germany and in Austria, which was incorporated into the German Reich in 1938 and it continued to apply in both countries after the Second World War. Both countries have in the meantime amended the Act and currently apply a revised and updated version.

12.2 Relationship between clients and their intermediary

It has already been noted that deposited securities and their transfers are governed by the law relating to tangible movables. This also has implications for the analysis of the relationships between investors and intermediaries.

In section 10.3 it was shown that intermediaries started to appear first in Germany and in Austria, driven by a need for the safekeeping of the certificates representing bearer securities. This need arose because the rules protecting buyers against adverse claims imposed the risk of an unauthorised transfer upon the owner of the securities. In German and in Austrian law owners lose all their entitlements when a third party in good faith acquires the securities and receives possession of the certificates.

In Germany, the function of an intermediary is traditionally performed by banks. The conclusion of section 11.1 was that banks at first held securities on an allocated basis for individual clients. The relationship between clients and banks therefore came to be analysed in terms of bailment: clients were considered to be the owner of the securities, banks were considered to be bailees.

The reforms of the 1930s and subsequent reforms changed the ways in which securities were held by intermediaries, in two ways. The first was that securities were transferred from individual files attributed to

12 Schubert, Ausschussprotokolle 497 558.

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individual customers to holdings in bulk on an unallocated basis. The second was that customer securities were transferred into the vaults of central depositories. The banks with whom clients had their immediate relationship ceased to have immediate physical control over the certificates.

Multi-layered intermediated holding structures have also emerged. Some banks which hold client accounts do not themselves hold accounts with the central depositories, but use other banks to act as their intermediary; in those cases it is possible for there to be several intermediary banks between the client and the central depository.

Alongside these changes in banking practice, the Depotgesetz regulates the relationship between clients, their securities and their intermediaries. On every level of this intermediated structure, the account holder is, in principle,13 entitled to claim delivery of the securities to her. This claim has priority over the claims of the general creditors in the intermediary’s insolvency.14

Banks maintain records only of the securities held by their immediate account holder. Based on these records, they have no means of identifying to whom the securities held by the account holder ultimately belong. Clients can therefore claim only as against their immediate intermediary; this intermediary will then claim from its immediate intermediary which, in turn, will claim from its immediate intermediary until the claim has reached the central depository which will deliver the certificates to its immediate account holder who will pass them on up the chain.

Account holders are not entitled to request the delivery of securities carrying the same numbers as those they originally handed over to their intermediary which then passed the securities certificates down the chain for them to be kept with the central depository.15 Moreover, claims against intermediaries are subject to the rules on shortfalls. If a shortfall arises with an intermediary because securities have, for example, been misappropriated, all clients of that particular depository bear the

13There is no such entitlement if the securities are held in the form of a permanent global certificate. There is also no such entitlement if the securities concerned are Government bonds for which no certificates exist.

14German Depotgesetz, s. 8, 7 (1); Austrian Depotgesetz, s. 5 (2), 6.

15Siegfried Ku¨ mpel, Bankund Kapitalmarktrecht, 3rd edn. (Ko¨ ln: Verlag Otto Schmidt, 2004) para. 11.217; Theodor Heinsius, Arno Horn and Ju¨ rgen Than, Depotgesetz (Berlin: Walter de Gruyter, 1975), s. 7, para. 10; Einsele, in Mu¨ nchKommHGB, DepotG, Rz 83; see also OGH 20.4.1926 Ob I 335/26 SZ 8/122.

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shortfall on a pro rata basis. No attempt is made to determine to whom the shortfall should be attributed. Moreover, in contrast to the position in general German and Austrian property law, clients do not lose their entitlement if the whole bulk of client securities is sold, but later replenished. The effect of this rule is best explained by reference to an example.

If the depository holds 1,000 units of a particular security in bulk for its clients and if that bulk consists of contributions of 250 made by clients A, B, C and D, the four clients hold equal co-ownership interests in the bulk. If the intermediary misappropriates the total of the 1,000 units, and then acquires 1,000 units of the same security for client E, these securities would be considered to belong to E under general German and Austrian property law rules. The Depotgesetz modifies this outcome in favour of A, B, C and D and to the disadvantage of E. To satisfy the claims of all clients, the depository would need to have 2,000 units. In most cases the depository will be able restore the bulk to this size; if the depository is unable to do this, the shortfall of 1,000 units is attributed to all the clients of the depository which holds securities of that type. As a result, E receives half of the remaining 1,000 units. A, B, C and D each receives 1/8 of the remaining 1,000 units.16

The rules on shortfalls apply to all intermediaries that form part of the chain connecting the ultimate client with the central depository. If any one of the intermediaries concerned does not have sufficient securities in its account and is unable to make up for the shortfall out of its own resources, the claim of the account holder of this intermediary will be reduced on a pro rata basis. This also reduces the entitlements of those account holders further up the chain which hold their entitlements through the intermediary at the level at which the shortfall occurred. This, consequentially, also reduces the entitlements of those retail clients routing their entitlements albeit indirectly, but nevertheless, through the affected intermediary.

The Depotgesetz does not only modify the entitlements of clients in cases of shortfalls. It also gives clients preferential rights over securities held by the depository in its own name. In the insolvency of the depository, the securities held by it are separated from the assets available for distribution to the general creditors of the depository. These securities are available to satisfy the claims of clients whose securities have been misappropriated by the depository and of clients who have not yet been

16 Iro, Bankvertragsrecht, I 10/48.

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credited with a co-ownership interest but who have parted with 90 per cent or more of their consideration.17

The later rules of the Depotgesetz are more than a modification of the general rules of property law: the German and the Austrian legislature have taken the policy decision that client interests are superior to those of the general creditors of the depository. Interestingly, however, this policy decision gives clients preferential rights only in circumstances where the depository owns securities in its own name. This can be explained by the fact that whether or not securities are credited to a client account is outside the client’s control. Whether or not a client has a proprietary interest in securities held by the intermediary should therefore not depend on a credit effected on the books of the client’s intermediary.

In summary, clients have a preferential claim to request delivery of securities to them. That claim is, however, enforceable only as against a client’s immediate intermediary which pursues the claim further down the chain. Clients are not entitled to request delivery of specific securities certificates and their entitlement is subject to the rules on shortfalls.

The services provided for by German and Austrian intermediaries have changed from services relating to the safekeeping and maintaining of paper certificates to services involving the maintaining of securities accounts. The Depotgesetz has put in place rules that have modified the claims of clients from claims to individual certificates to claims for the delivery of securities, the amount of which is subject to the rules on shortfalls.

Notwithstanding these changes in both the pattern through which securities are held and in the legal rules governing the entitlements of clients, German and Austrian law continues to analyse the relationship between clients and intermediaries in terms of bailment. Rather than identifying a new set of legal rules that would more appropriately reflect the change in the nature of the service provided by the intermediaries, German and Austrian law has modified its concept of bailment to accommodate the multi-layered structure which is in place today.

The intermediary with which the retail clients hold securities is referred to as a bailee (Verwahrer). All other intermediaries are referred to as indirect bailees (Zwischenverwahrer). All intermediaries, including the central depository, are deemed to hold the securities on behalf of ultimate clients the identity of whom is known only to the intermediary which holds the ultimate client account. This analysis applies

17 Depotgesetz, s. 32; Austrian Depotgesetz, s. 23.