New Provisions in the Latvian Commercial Code on the Company’s Transactions with its Shareholders, Board and Council Members
Saeima has adopted amendments to the Latvian Commercial Code, which clarify and more strictly regulate transactions of a company with its founders, shareholders and related parties. If a company within two years after its incorporation acquires property from its founder, shareholder or a related party, and the value of the deal exceeds 1/10 of the company’s share capital, shareholders’ meeting must decide whether to accept/confirm the transaction. Shareholders will be able to include provisions in the company’s articles of association that provide for a longer than the two-year term during which a shareholders’ meeting must decide whether to give a consent to the transaction.
The two-year term is set in order to ensure that the incorporation of a company is not used as an instrument for fulfilling any fraudulent interests of its founders or shareholders as well as to avoid situations in which the founders or shareholders that invest in the share capital receive a disproportionately high sum in compensation for their investment. During the two-year period at least one annual report will be prepared and approved, reflecting the company’s economic situation.
To avoid a situation where the shareholders’ meeting questions a purchase agreement with its founder because the purchase price is apparently too high, and consequently the transaction is not approved by the meeting, it is always recommended to enter into the transactions where the price is set at arm’s-length. In addition the board should consider preparing an expert’s or an independent auditor’s opinion on the market value of the transaction. It should be noted that under the 1st paragraph of the Latvian Commercial Code profit is the ultimate goal of all the business activities, therefore even the transactions with unrelated parties should be in line with the market prices – this will ensure that the company operates with a profit and the shareholders have no grounds to claim damages from the company’s board for unlawful or negligent operation.
If the company’s share capital is less than LVL 2,000, the shareholders’ decision will be required for a transaction with the founder, shareholder or a related person, if the value of the transaction exceeds LVL 200.
A company with only one shareholder is required to make its transactions with the shareholder in writing, however, a separate document to prove shareholder’s consent to the transaction will not be necessary.
Under the Commercial Code a person is related to the company (X) if he/she is:
1) a relative of the company’s founder, shareholder, board or council member (up to the second degree under the Civil Code), a spouse of the aforementioned or spouse’s first degree relative, or a person with whom he/she shares a household;
2) a company (Y) in which majority of shares (capital) is owned by the X company’s founder, shareholder or board/council member;
3) a company (Z) in which the X company’s founder, shareholder, board/council member is appointed to the board or to the council.
If a company enters into a transaction with its board member, council member or a related person, the council (if the company does not have a council, then the shareholders’ meeting) has to decide whether to approve the transaction. These transactions will require the approval from the council or the shareholders’ meeting throughout the company’s existence, in contrast to the above mentioned two-year time limit on the transactions with the founders and shareholders. A limited liability company (SIA) will be allowed to define different rules in its articles of association. The council member or the shareholder interested in the transaction will have no voting rights regarding the approval – this should be properly recorded by the minutes of the relevant meeting, and his/her vote should not be taken into account in determining the quorum. If none of the council members has voting rights, then the company’s shareholders shall resolve on the transaction.
A transaction with a board or a council member, a shareholder or a related party will enter into force only after it is approved by the council or the shareholders’ meeting, however, non-receipt of a consent will not affect third parties unless they were aware of the necessity for the council’s or shareholders’ meeting approval and they knew that this approval was withheld.
Approval requirements do not apply when the property is acquired during the course of the company’s regular business activities and for the regular (market) price; a property is received without compensation, during an auction or in the exchange transaction, or pursuant to a court order.
The new regulation is intended to protect a company and its shareholders, as well as their creditors from the transactions that cause losses to the company. The amendments have come into force since 10 July 2012.