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We previously looked at the role Depositary Interests (DIs) and Global Depositary Receipts (GDRs) may be able to play to reignite London’s popularity as a capital raising venue of choice. However, in April, Germany adopted the legislation related to its “Future Finance Act” where key goals include capital markets digitisation through the issuance of electronic securities on a blockchain, as well as improved portability of crypto assets. The action offers a radical solution to address the challenge of markets being accused of not moving with the times, but does it provide a genuine route ahead, or is it a case of promoting technology to provide an over-engineered outcome?

The CHESS example

The Australian Stock Exchange believed that the blockchain could hold the key when it came to overhauling its 25 year old CHESS clearing and settlement system for shares. Embarking on a project in 2017, the exchange worked its way through A$250 million over the next five years before accepting that this didn’t provide a meaningful way ahead. An independent review highlighted issues of scalability and resilience requiring significant changes to both the design and implementation in order to ensure the market’s high standards could be maintained. As apparent, migrating legacy exchange systems to the blockchain is clearly far from being a straightforward process, but can a smaller deployment with supportive regulations with a focus on tech savvy growth companies and their similarly minded investors find success?

Do current systems actually need fixing?

Part of the well documented UK listing reform proposals revolve around the digitisation of securities certificates. Maintaining operational resilience is important, but so is the idea that existing processes can be enhanced. Although there has been a degree of digitisation in the UK equities market, a small but significant minority of shareholders persist with paper certificates. There is a framework already in place to move some issuers to full digitisation and the UK is well placed to adopt it should the last stages of the C.S.D. Regulations be brought into force, as is already the case in Ireland. This would mandate a universal move to digitisation for all listed Companies.

Digitisation initiatives have been deployed elsewhere based on legacy technology, giving investors of all sizes unparalleled access to their portfolios. A good example of this is Singapore, where investors can view a single dashboard of shareholdings through the CSD, using a combination of digital ledgers and data sharing. The principle here is closely aligned with open banking – there’s no need for a revolutionary move to distributed ledgers to make this happen, thereby mitigating the scalability issues cited in Australia. Markets can find a way ahead by fine-tuning the existing technology supported by regulators who understand the benefits of digitisation, rather than having to rebuild from scratch.

What about the German initiative?

Arguably this provides a great test bed for using distributed ledgers to manage the life cycle of a security. Starting with a blank canvas and the cumulative knowledge of how these systems can work, where the operational efficiencies lie – and perhaps most significantly what caused others to fail – has the potential to make this a transformational piece of work. But it’s vital to remember that existing systems already possess a lot of power and functionality, so modest changes to technology and regulation can transform their potential.

And what about the law?

The UK Jurisdictional Taskforce has been looking at the issuance and transfer of digital securities, largely with an eye on ensuring that the UK is seen as a more accommodative venue for crypto assets. This review highlighted that the statutory requirement for the issue of share certificates can be dispensed with by a simple amendment to the company’s articles of association, confirming that book entry issuance is a viable pathway in the UK. Avenir Registrars already has the ability to support share issuance in paper, book entry and CSD form concurrently, meaning that for those wishing to pursue a digital ledger solution, both the legislation and the supporting infrastructure can already be accessed.

An amended version of this article originally appeared in the May 2023 version of AIM Journal. You can download a printable version here.

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