The president of Russia issued Decree No. 840 on October 2, 2024, prescribing that all Russian custodians transfer shares of Russian joint-stock companies held in Type C custody accounts from the National Settlement Depository (NSD) directly to the relevant registrars of Russian joint-stock companies, in accordance with the procedures and timeframes established by the Central Bank of Russia (CBR). On October 3, 2024, the CBR issued its decision on the establishment of the respective procedures and deadlines for the Russian custodians (CBR Decision).
NSD is the central securities depository of the Russian Federation, and all publicly tradable Russian shares are held by Russian custodians through custody chains involving NSD. On June 12, 2024, NSD was added to the US Department of the Treasury Office of Foreign Assets Control’s (OFAC’s) Specially Designated Nationals and Blocked Persons List.
The following day, June 13, 2024, NSD was included in the United Kingdom’s Consolidated List of Financial Sanctions Targets published by the HM Treasury’s Office of Financial Sanctions Implementation (OFSI). Both OFAC and OFSI issued general licenses authorizing certain dealings and transactions involving NSD until October 12, 2024 (General Licenses).
From the Russian regulatory standpoint, all non-Russian residents from the so-called “unfriendly jurisdictions” (i.e., the United States, Canada, EU member states, the United Kingdom, overseas territories of the United Kingdom, Ukraine, Montenegro, Switzerland, Albania, Andorra, Iceland, Liechtenstein, Monaco, Norway, San Marino, North Macedonia, Japan, South Korea, Australia, Micronesia, New Zealand, Singapore, and Taiwan) have their Russian shares recorded on special “type C” custody accounts, which are effectively blocked due to an extremely limited number of transactions that are authorized with such accounts.
This “Type C” regime also applies to depository receipts (DR) program custody accounts (the DR Program Custody Accounts) maintained by the relevant Russian custodians, where the nominee holders of these accounts are US legal entities. Under Russian law, the total number of underlying Russian shares for each DR program is recorded in these DR program custody accounts.
Upon expiration of the General Licenses, non-Russian financial institutions, including nominee holders of DR program custody accounts, as well as retail investors, may face sanctions risks associated with the continued indirect involvement of NSD in the custody chains related to Russian shares. As a result of the procedures outlined in Decree No. 840 and the CBR Decision, NSD will be removed from the custody chains related to Russian shares held in Type C custody accounts.
The CBR Decision provides the following procedures and timeframes:
To ensure the feasibility of the above procedures, the CBR Decision specifically states that from October 4, 2024, and until the completion of the transition period, Russian custodians shall not accept any instructions from their client depositors for transactions involving Russian shares held in Type C custody accounts. Moreover, unsettled instructions from depositors received by the Russian custodians on or before October 3, 2024, shall not be executed and shall be considered revoked.
There is a special carve-out only for transactions that are to be executed based on approvals from the Government Commission on Control over Foreign Investments or Russian President in accordance with Russian presidential decrees. Such transactions can be completed within seven days after October 4, 2024. However, standard custody instructions to receive Russian shares as a result of DR conversion do not fall under this exception. Therefore, investors whose instructions have not been settled by the end of the day on October 3, 2024 cannot complete the DR conversion.
As a result of the above procedures, Russian custodians are to record the Russian shares held in Type C custody accounts directly with the relevant registrars of Russian joint-stock companies, bypassing NSD. Foreign investors and financial institutions will continue to be clients of and interact with the relevant Russian custodians.
This means that non-Russian investors and financial institutions will no longer face sanction issues related to the involvement of NSD in the recordkeeping of Russian shares. For example, there will no longer be risks of indirect fees payable to NSD due to the safekeeping of Russian shares in Type C custody accounts or transfers of Russian shares between Type C custody accounts.
However, we note that this applies only to non-Russian residents from “unfriendly jurisdictions” who hold Russian shares in Type C custody accounts. The Russian shares held in regular unrestricted custody accounts will continue to be recorded through NSD. Additionally, if the relevant registrar of a Russian joint-stock company is also sanctioned, there will be further issues related to the recordkeeping of shares with a sanctioned entity.
Since the CBR regulations regarding Type C custody accounts inherently apply to DR Program Custody Accounts, it can be assumed that the underlying Russian shares for each DR program will also be transferred by Russian custodians to their Personal Type C Nominee Accounts.
In light of this, it remains to be seen whether DR program agents will be ready to reopen books for standard DR cancellation and conversion following the aforementioned procedures if the General Licenses are not extended.
First, only non-residents from “unfriendly jurisdictions” would be able to complete the conversion without interaction with NSD; however, the acceptance of shares resulting from DR conversion for all other individuals with regular unrestricted custody accounts would still require the involvement of NSD. A potential resolution to this situation could be a requirement to open direct personal accounts for shareholders in the registry and to accept underlying shares resulting from DR conversion exclusively within the registry.
Second, from the Russian regulatory standpoint, further developments and clarifications will be needed regarding the feasibility and technical procedures for transferring underlying shares from DR Program Custody Accounts and related Personal Type C Nominee Accounts as a result of DR conversion.
If you have any questions or would like more information on the issues discussed in this LawFlash, please contact any of the following: