A client asked us: GSAs and share pledge agreements

18 December 2017


Q: If a lender has a general security agreement (GSA) from its borrower, should it also have a share pledge agreement to cover the shares held by the borrower in its subsidiaries?

A: Both a GSA and a share pledge agreement that includes a proper collateral description can create a security interest in all shares and other equity securities held by a borrower in any subsidiary or other corporation specified in the document or its schedules (collectively, the "Shares"). However, taking possession of the share certificates[1] (in the case of certificated securities) or obtaining a control agreement (in the case of uncertificated securities or security entitlements) is an additional step needed under the Ontario PPSA[2] to ensure that such a security interest will have a first priority ranking over the relevant Shares as against other secured creditors of the borrower. Otherwise the borrower could attempt to use those Shares as collateral to obtain financing from another lender.

Not all lenders obtain separate share pledge agreements. Some lenders rely just upon the security interest created under their GSA if the Shares have no particular public market value in and of themselves. Other lenders obtain separate share pledge agreements for the following reasons:

Added Covenants - Having a share pledge agreement typically gives the lender the benefit of several specific covenants relating to the Shares, including specific rights relating to voting the Shares before and after the occurrence of an event of default, the treatment of and entitlement to any dividends received before and after the occurrence of an event of default, and representations and warranties specific to the Shares. To the extent that there are any restrictive covenants contained in any shareholders agreement relating to the Shares, those covenants can be waived or otherwise addressed in the share pledge agreement with any required consents of other shareholders to the pledge obtained in the same document. These extra Share-related covenants are not typically included in a GSA which frequently only addresses the attributes of the specific collateral subject to the GSA in very general ways.

Secondary Enforcement Option - Having a Share Pledge Agreement gives a lender a second option in terms of the enforcement of its security in the event of a default. Instead of seeking to appoint a receiver to sell the general assets, property and undertaking of the borrower under the GSA, the lender can enforce under the share pledge agreement alone and attempt to sell the Shares instead. For tax reasons, some buyers may be looking to acquire just the Shares of a subsidiary to obtain the benefit of accumulated tax losses within the subsidiary.

Negative Pledge and Indirect Control over Corporate Restructurings - Having possession of or control over the Shares means the borrower cannot attempt to offer the Shares as collateral to another lender. In addition, the lender can ensure that it will be aware of and involved in any corporate restructurings within the borrower group as the solicitors for the borrower will need to have the pledged Shares returned to them for purposes of issuing any new or replacement certificates as part of the restructuring.

Thus in many situations, having a separate share pledge agreement in a lender's security package can provide a number of advantages.

[1] Possession of the share certificates will need to be accompanied with a corresponding stock transfer power of attorney executed by the borrower to achieve perfection by control.
[2] Personal Property Security Act, RSO 1990, c P.10 [Ontario PPSA].

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