Pledge of Shares of a Panama Company

This article reviews frequent questions and answers about pledging the shares of a Panama corporation.

What is a Pledge of Shares?

In simple terms, pledging is to take loans against the securities you own, and in this case, these securities are the shares held in your account.

Still complicated? Let us simplify the meaning of pledging.

Suppose you are in need to raise funds to meet the working capital requirements, as an investment strategy or to meet the financial requirements. Here, pledging comes into the picture and it determines that you can keep your existing shares as collateral security with the broker without changing their ownership and gain margin funds in return. Therefore, if you pledge your shares that means you are taking a loan against the shares in possession.

How does a Pledge of Shares Works?

When you take a loan from a bank, you are supposed to mortgage an asset as a security. Similarly, when you take margin amount from the broker (lender), you are required to mortgage or pledge the shares as a collateral security and similarly pay the required interest on the margin amount. When shares are pledged, ownership remains with the investor only until the investor fails to repay the loan which gives authority to the lender to sell the pledged shares and recover the amount else, the investors repay the amount and release the pledged shares.

What is Pledging of Promoters Shares?

Promoters represent an entity of the firm who held the majority stakes of the company in its initial stages. Promoters participate in regular business affairs and are responsible for its regular operations. When an entity needs funds for regular operations or expansion of the business, it can be done through equity, issuing corporate bonds, etc. While raising funds from pledging promoters’ shares, their shares are kept as collateral security for the loan by lenders.

Can You Secure a Loan with Shares in a Panamanian Company?

Yes. Under Panamanian law, both individuals and legal entities-whether local or foreign-can own and pledge shares in Panamanian corporate entities as collateral.

Movable assets located in Panama that can be possessed and transferred are eligible for pledging under Panamanian law as security for a principal obligation.

Can a Pledge of Shares in a Panamanian Company Be Governed by Foreign Laws?

A share pledge agreement involving a Panamanian Company can be governed by foreign laws, and Panamanian courts will enforce its terms unless they contradict public policy (orden público). However, for practical reasons, it is strongly recommended to apply Panamanian law to the pledge agreement. Doing so helps avoid potential enforcement challenges or the need for exequatur procedures, which can be complex and time-consuming.

What Are the Key Requirements for a Share Pledge in Panama?

To be legally valid, a pledge over shares must meet the following requirements:

1. Written Agreement: The pledge must be documented in writing.
2. Delivery of Share Certificates: The physical share certificate must be handed over to the pledge or an agreed third-party custodian.
3. Valuation Method: The contract must outline how the value of the shares will be determined to ensure fair valuation against the secured obligation. If no method is specified, Article 821 of the Panamanian Commercial Code states that the valuation will be conducted by two experts appointed by each party with a third expert resolving any disputes. If experts are not appointed, a judicial authority will determine the value.

What kind of assets can be covered by a pledge?

A pledge is a type of real guarantee which may be given over all kinds of movable assets. A pledge has to be constituted with the same formality as the agreement setting out the obligations it guarantees. However, it is essential that the pledge asset is delivered to the creditor or a third party as depository for its protection. Intangibles such as credits and rights are considered movable assets under Panamanian law and can be the subject of a pledge if they are individually identifiable. 

What are the Benefits of Pledging of Shares?

In terms of financial flexibility and capital, there are several advantages of pledging the shares, read below to gain an in-depth understanding of the pros of a pledge of shares:

Capital Access

Pledging shares is very useful for individuals to have access to capital instead of selling their equity holdings. This allows investors to gain more profits by having extra funds from the lender as it helps in financing business operations, expansions as well as personal financial needs.

Retention of Ownership

Investors do not lose ownership when they pledge their shares. They can get more funds by pledging them instead of selling the shares and enjoy the benefit from potential appreciation in the share value and dividends.

Reduced Interest Rates

Pledged shares are in the form of security to the lender; hence the interest rate is lower as compared to unsecured loans.

Enhanced Liquidity

Pledging of shares allows investors to convert non-liquid assets or shares into liquid assets or cash which is crucial to meet immediate financial needs or obligations.

Investment Leverage

Pledged shares are used by investors to obtain margin loans to leverage their investment portfolio and buy more shares. It possesses significant risks but can enhance the potential in the overall portfolio of an investor.

What are the Risks of Pledging Shares?

Pledging of shares is nowhere bad until it is executed intellectually with smart moves as well as considering the risk factors.

Market Volatility

Due to fluctuating market conditions, the value of pledged shares can even fluctuate and fall significantly, which might require the borrower to provide additional collateral or repay a part of the loan. Inability to repay the loan can lead to the forced sale of shares.

Interest Costs

Borrowers are obliged to pay interest rates to avail the loans secured by pledged shares and the investors might have to bear financial losses if interest costs are higher than the returns on investments.

Complexity and Legal Risks

Pledging shares involves a lot of complexity with the complications of legal agreements and documentation. Due to the complexity involved, misinterpretations happen which can lead to legal disputes as well as financial losses.

What are the requirements of the pledge shares to take effect against third parties?

For a pledge to be enforceable against third parties, the agreement must be notarized. While it can be executed as either a notarial instrument (escritura pública) or a private document, it will only be enforceable against third parties if it has a “date certain”, as defined by the Panamanian Code of Civil Procedure. The most straightforward way to achieve this is by having the parties’ signatures acknowledged by a Panamanian notary and two witnesses.

Delivery and Endorsement of Share Certificates?

• Delivery. The delivery of the pledged shares to the creditor or a designated third-party custodian is a fundamental requirement for the pledge’s validity. The pledge involves nominative shares or other registered instruments, delivery is satisfied by transferring possessions of these documents to the pledge or a depositary.
• Endorsement of Shares. Although endorsing nominative share certificates is not legally required to perfect a share pledge, it has become a well-established commercial practice in Panama. Under Panamanian law, commercial customs can serve as a source of legal precedent.

Is Registration in the Panamanian Public Registry Mandatory?

No. A pledge of shares can remain a private agreement without being registered in the Panamanian Public Registry. However, it is highly advisable to annotate the pledge in the company’s share registry for added legal certainty. Further notarization of the company share registry, reflecting the pledge annotation, is also recommended all members must act independently in the best interest of the company, there are classifications that distinguish members based on their relationship with the organization:

How Is a Pledge of Shares Enforced in Panama?

The enforcement of a share pledge is based on the principle that the creditor has the right to recover their debt from the value of the pledged shares, with priority over other creditors. This means that upon default, the pledged shares must be sold to satisfy the outstanding obligation.

Under Panamanian law, creditors cannot simply appropriate pledged shares. Instead, the primary legal remedy is a judicial auction (juicio ejecutivo prendario), which ensures that the shares are sold at fair market value, protecting both the creditor and the debtor.

However, Panamanian law also allows parties to agree on a special mechanism for selling the pledged shares. According to Article 820 of the Panamanian Commercial Code, if no special method is agreed upon, the creditor or depositary may sell the pledged assets after providing written notice to the owner at least 30 days in advance and conducting a valuation in accordance with Article 821.

Article 821 further establishes that the parties should agree in the pledge contract on a method to determine the value of the pledge shares to ensure a fair market valuation. If no method is specified, the valuation will be conducted by two experts-one appointed by each party-or a third expert chosen by these two in case of a dispute. If the parties do not appoint experts, a judicial authority will determine the value.

It is important to note that Article 822 explicitly prohibits any clause that allows the creditor to take ownership of the pledged shares without following the required enforcement procedures. Any such clause would be deemed null and void.

Pardini & Asociados

Clientservices@padela.com