March 27, 2018

The new law about LLC will will defend business and its lenders

The president was quick to sign the Law on Companies with Additional and Limited Liability No. 4666 - the so-called "LLC law". This is how most companies operate in Ukraine. Only, their activities had long been regulated by outdated norms of the law "On Economic Entities" and certain provisions of the Civil and Economic Codes adopted in the early 90's. These provisions often contradicted each other, hindered flexible decision making and sometimes even blocked a company's activities altogether (for instance, in the event of death of one of the partners).

Anton Zinchuk, expert on contracts and business reorganization at ILF, clarifies the most interesting provisions of the new law.

Exiting a limited liability company is among the most pressing issues for businessmen in Ukraine. For instance, several friends or acquaintances would pool resources and start a business but later realize that do not wish to work together. This would lead to the following question: how to withdraw from your LLC and not lose the funds you invested?

Traditionally, two solutions to this problem have been in use:

  1. Selling your share of the business.
  2. Exiting the LLC.

These solutions will remain after the entry into force of the LLC law, but some things are still going to change.

Option 1 stays the same. The stakeholder selling his stake must first offer it to the co-owners of the business. If none of them buys it, it may be sold to any person or company – but with the same conditions as for the partners. That is, you may not, for example, offer your stake to a partner for 100,000 UAH but then sell it to someone else for 10,000. This is the preemptive right of other shareholders to buy the exiting shareholder’s stake.

Option 2 – exiting LLC – is going to change drastically.

Right now, to exit one’s LLC, the shareholder must send a notification at the company’s legal address, and he will be out in a two months’ time. The company must pay him a part of the value of assets proportional to his share in the business (in the company's authorized capital). What does this mean? The company considers its net assets: adds up all income and assets and subtracts all liabilities and debts. If the result is above zero, the exiting shareholder receives a certain part of it (the result can as easily be zero or even a negative figure). In addition, the exiting shareholder has a right to his part of the profits (proportional to his share) if the company received it in the current year.

The new law makes the exit procedure more complex. Now the shareholder does not have to ask anyone whether he can leave the company. It all depends on that shareholder’s stake. If it is 50% or higher, then he will require the consent of other partners. Moreover, while exiting shareholders are currently paid a part of LLC’s net assets, the new law provides that they must be paid based on the market value of their share, as determined by independent valuators. Naturally, the partners will be reluctant to let go shareholders with large shares, which would mean withdrawal of funds and assets from business.

These rules, on the one hand, complicate the life of businessmen, but on the other hand, protect the business itself as well as its creditors by limiting exit rights of the owners of large shares.

Therefore, in order to leave one’s LLC, shareholders should find a buyer for their share or sign a corporate agreement with other shareholders. Such an agreement could resolve disputes that arise in the course of doing business or in relationships between shareholders – if this was what brought about the desire to leave the company. After all, from the perspective of business logic, it’s not in the best interests of the remaining shareholders to allow their partner to leave with a share that exceeds 50%.

There is one more important point to consider – the issue of so-called "dead souls" is finally being addressed.

The longer there is an independent Ukraine, the older its companies are getting. These "dead souls" are deceased shareholders whose stakes nobody has inherited (because they had no heirs, or their heirs gave up the inheritance). In the past, the law did not permit dividing shares of "dead souls" between the remaining members of the company.

When a shareholder with a stake exceeding 50% died, the company’s general meeting of shareholders, an ineffective management body, would paralyze the company’s operation. A 50% + 1 majority is required for a number of management decisions. As a result, in a situation like this, the remaining stakeholders were unable to appoint a new director or increase the authorized capital (put additional funds in their own company). Such situations were resolved using various manipulations, which in most cases were illegal.

The new law allows excluding a deceased shareholder from the LLC if no heir appears within 1 year after the expiration of the period for the acceptance of the inheritance. The share is then proportionally divided between the rest of the shareholders.

The LLC law does provide flexible conditions for doing business as LLC and will be a welcome alternative to many joint-stock companies (JSCs) that use this model only because its management mechanisms are more in line with their needs.

 

At the same time, this brings additional difficulties for running a company. For instance, there is no provision in the new law regarding the need for notarization of agreements with individuals, so that a notary could explain to people unfamiliar with corporate law what exactly they are signing. Nevertheless, generally speaking, the new law does reflect the declared concept - to make Ukraine more attractive to business investors and protect their investments.