Alexander Swayne


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Alexander Swayne


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1 February 2023

Lending Focus - February 2023 – 3 of 6 Insights

Can English law adapt to allow for the digitalisation of trade finance documents?

  • In-depth analysis

Background and why is reform needed in this area? 

  • International trade is worth approximately £1.3 trillion to the UK. Each trade can potentially involve around 20 different entities along the various stages of transportation, logistics and finance and will involve a number of paper documents.
  • Much legislation in this area is based on the way things were done hundreds of years ago. The law was based on, and still attaches great significance to the holding or possession of the trade document.
  • Under English law, one of the major inhibiting factors preventing fully digital trade finance is the inability to possess an intangible, which would include an electronic legal document.
  • As a result, nearly all documents used in international trade are in paper form. In an increasing digital world, which now makes use of central registry systems and technologies such as distributed ledger technology (DLT), there has been pressure from many organisations to digitise trade finance.
  • There would be significant benefits to reform including cost and time savings (electronic processing is significantly quicker than transferring a paper trade document); enhanced security given document trails would be more easily traceable and a reduction in the environmental impact of paper and courier emission.
  • This article focusses on how proposed reform would seek to address the possession issue and remove this hurdle given the benefits of reforming and updating the law in this area.

The issue of possession

  • A number of trade finance documents, including bills of exchange and promissory notes, require possession in order to be binding. Under the Bills of Exchange Act 1882, neither a bill of exchange nor a promissory note is irrevocable and binding until "delivery" has occurred. The definition of delivery "means the transfer of possession, actual or constructive, from one person to another".
  • Possession is also used in the Carriage of Goods by Sea Act 1992 to determine the holder of a bill of lading.
  • A long-standing tenet of English law is that you cannot possess an intangible. This was confirmed in the House of Lords case: OBG Ltd v Allan [2007] UKHL 21.
  • In November 2019 the UK Jurisdictional Taskforce released the "Legal statement on cryptoassets and smart contracts" which confirms that possession of an intangible cannot occur under English law.
  • A similar argument follows for indorsement (the method to effect negotiability) of a bill of exchange or promissory note, as this also relies on the concept of delivery and therefore possession.

What are the current work arounds? 

Over the past five years, a number of trade finance platforms have established themselves to provide a workaround in relation to the issue of possession:

  • This can and is usually achieved by providing a legal framework (or rulebook) that sets out the rules for using a particular platform. All transacting parties sign up to and agree to use this, permitting the parties, as a matter of English contract law, to agree to treat an electronic document in the same way as its paper equivalent.
  • This is not a universal solution as all parties need to be signed up to the same rulebook and there are a number of competing platforms currently in the market, decreasing the overall effectiveness of this in the relevant ecosystem.

Previous efforts to digitise the law

Attempts to digitise trade are not new.  There have been a number of attempts to do so in the past, and steps forward from prominent organisations: 

  • UNCITRAL's Model Law on Electronic Transferable Records was adopted on 13 July 2017.  Although this is a good starting point, it has not been enacted by many jurisdictions and the UK currently has no plans to adopt this Model Law.
  • The International Trade and Forfaiting Association (IFTA) launched their digital negotiable instrument initiative in April 2022. Their paper details the hurdles which need to be overcome to have a digital negotiable instrument (a bill of exchange or a promissory note), noting the failure of this process due to the issue of possession. ITFA proposes the creation of an "electronic payment undertaking", which is the "signed, written alternative yielding negotiable equivalence to an electronic negotiable instrument under English law in a purely electronic system".
  • The ICC published its Uniform Rules on Digital Trade on 1 October 2021, which provide rules than can be incorporated into transactions to promote digital trade. 

Proposals for reform 

  • The emergence of recent technology such as DLT plus greater security protocols have allowed the Law Commission to look at the possibility of permitting electronic trade documents under English law.
  • The Law Commission released a consultation paper and draft bill to address these issues in April 2021, then in March 2022 produced its report on Electronic Trade Documents (the Law Commission's 2022 Report) to which a draft bill is appended (the Electronic Trade Documents Bill). The draft Electronic Trade Documents Bill was mentioned in the 2022 Queen's Speech, given by the King (then the Prince of Wales) on 10 May 2022.
  • The Law Commission's view is that English law needs to adapt to the reality of today's commercial world and to be updated to allow for the possession of an intangible as a matter of law.  This would involve statutory change to the Bills of Exchange Act 1882 and the Carriage of Goods by Sea Act 1992. 

What does the Law Commission's 2022 Report apply to? 

The following would all be permitted to exist electronically, (1) Negotiable instruments; (2) Bills of lading; (3) Ship's delivery orders; (4) Warehouse receipts; (5) Mate's receipts and (6) Marine insurance policies and cargo insurance.  There is potential for this list to be expanded. 

Certain criteria (the Gateway Criteria) would need to be satisfied to replicate the relevant features of the equivalent paper document.  These relate to the information contained in the electronic trade documents and require a verifiable and secure platform that permits exclusive, identifiable, control of the relevant electronic document.

What does the Law Commission's 2022 Report recommend? 

  • "Trade documents in electronic form should be capable of being possessed as a matter of law, provided they meet certain criteria which ensures that they can replicate the salient features of paper trade documents."
  • "There should be legislative reform to allow for trade documents in electronic form that satisfy certain criteria to be possessed and therefore to have the same legal effects as their paper equivalents."

How is this reflected in the draft Electronic Trade Documents Bill

  • It sets out which documents qualify as paper trade documents and correspond with qualifying electronic documents (allowing for amendment to this list) and the criteria for a reliable system to use (following the Gateway Criteria).
  • It allows a person to possess and indorse an electronic trade document.
  • It confirms that an electronic trade document has the same effect and functionality as its equivalent paper form and that anything done to the electronic trade document has the same effect as if it was done to its paper form.

Looking forward

  • The Law Commission's 2022 Report and draft Electronic Trade Documents Bill are both very promising steps towards worldwide electronic trade and will hopefully provide an example that other jurisdictions can follow.  In order for real progress, multi-jurisdictional reform is needed, given the nature of trade, as currently only a small number of jurisdictions recognise electronic trade documents. If reform is only made in this jurisdiction, electronic trade documents may be permitted under English law but may not be recognised elsewhere. For example, a bill of lading is usually physically presented to a ship's captain to allow the unloading of goods - if the ship were in a port where electronic documents are not recognised, it is unlikely a captain would accept an electronic bill of lading. The Law Commission understand this challenge and has agreed with the government to look at the rules relating to conflict of laws as they apply to emerging technology.
  • The Electronic Trade Documents Bill is currently being considered by the House of Lords. The House of Lords has established a Special Public Bill Committee on the bill, which committee has sought views on the proposals. The committee took evidence from witnesses at its third and final evidence session on 26 January 2023. Significant thought and focus is being allocated to progressing the law to facilitate technological advances and electronic trade.
  • In summary, the Law Commission's proposed reforms represent a significant step in the development of English law in this area, and a confirmation that the UK is keen to place itself at the global forefront of facilitating digital documents, even where there are hurdles that just a few years ago, seemed impossible to overcome. It is now for the government to decide whether to implement the proposals, but the government has indicated it intends to introduce relevant legislation when parliamentary time allows. 

Find out more

To discuss the issues raised in this article in more detail, please contact a member of our Banking and Finance team.

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