In our previous article, we referred to the issue of the acquisition of own shares by the SA. We established, there, the impossibility of the original acquisition and the cases, under conditions, that a derivation from this rule is permissible. In the present article we will explore an additional, but important, question: is it permitted for the SA to provide credit to third parties for the acquisition of own shares?
Concept & Scope
The prohibition (because this is what it is about) of the SA granting credit for the acquisition of own shares is regulated in the law (art. 51 law 4548/2018). This is a similar regulation to that of article 16a of the previous law 2190/1920.
Objective of the scope
The specific prohibition refers, explicitly, to the financing of third parties by the SA for the purchase of its shares through the granting of – indicatively: (a) advances, (b) loans and (c) the provision of guarantees. These cases, however, are not listed in the law exhaustively.
The prohibited transactions, on the contrary, include, given the title and purpose of the relevant provision, any other form of credit. Among them, for example, is the conclusion of contracts for the provision of personal guarantees, the opening of credit accounts, etc. (2881/2004 Multimember Court of First Instance of Piraeus–Nomos Legal Database).
The prohibition also covers financing for the acquisition of already existing shares as well as any newly issued shares, following an increase in the SA’s share capital. Therefore, financing for both the derivative and the original acquisition of SA shares is prohibited (31/2002 Multimember Court of First Instance of Piraeus, 2881/2004 Multimember Court of First Instance of Piraeus–Nomos Legal Database).
Subjective of the scope
First of all, it is, of course, forbidden for the SA to proceed with the financing in question to third parties. In addition, however, according to an express legislative provision (art. 51 § 2), it is not possible for subsidiary companies (within the meaning of art. 32 of Law 4308/2014) to make non-permissible advances, loans or guarantees for the acquisition of shares of their parent company by third parties. Neither are general or limited partnerships, in which the partner with unlimited liability is the SA.
With reference to the concept of “third parties”, this includes, first of all, non-shareholders. Persons, i.e., who wish to acquire, for the first time, shareholder status through their financing. However, the existing shareholders of the SA also fall under this category. The latter, as recipients of the credit in order to increase their corporate participation.
The members of the Board of Directors of the SA, or of its parent company, are also considered third parties (within the meaning of art. 32 of Law 4308/2014). Also, the surrogate persons who act in the name and on behalf of the aforementioned persons, to whom the financial aid is finally transferred. They are, however, expressly excluded and therefore do not fall under the concept of a third party, the staff of the SA or a company associated with it (art. 51 §4).
Time of the Funding
Financing, despite the wording of the law, does not necessarily precede the acquisition. On the contrary, it is equally prohibited, even if carried out after the shares have been acquired. After all, it is imposed by reasons to protect the company’s capital. However, proof of a causal link between the financing and the purchase is required in this case.
The above prohibition clearly aims to protect the principle of the stability of the company’s share capital.
The assumption, specifically, by the SA of potentially damaging obligations to third parties constitutes an infringement of the guaranty nature of the share capital vis-à-vis corporate creditors and existing shareholders. According to the jurisprudence, the consequence of any conclusion of the prohibited contracts is the disbursement of part of the corporate property; potentially, a prohibited return of capital to the shareholders.
However, the eventual insolvency-inability of third parties to repay the financing results in a reduction of the SA’s assets. The shaking of the security and the trust of the company’s creditors is, however, a given collateral consequence (1435/2005 Supreme Court, 1046/2006 Court of Appeal of Piraeus, 2881/2004 Multimember Court of First Instance of Piraeus, 31/2002 Multimember Court of First Instance of Piraeus–Nomos Legal Database).
At the same time, the prohibition of the aforementioned financing also prevents the increase – by unfair means – of the power of the members of the Board of Directors in the SA and, by extension, their majority position in the General Assembly (31/2002 Multimember Court of First Instance of Piraeus, 2881/2004 Multimember Court of First Instance of Piraeus–Nomos Legal Database).
Despite the above risks, the provision of credits for the acquisition of own shares may serve reasonable corporate interests. Therefore, the necessity to observe a series of (legal) conditions to avoid arbitrariness arises.
Reasons for the protection of creditors, but also of minority shareholders, require the observance of transparency when carrying out the, exceptionally, permissible financial transactions. The latter facilitate the attraction of new shareholders. In this way, the company’s need to find important investors is often met. Therefore, the shareholder composition is legitimately renewed and the business and financial goals of the company are served. After all, the relevant financed takeovers of companies are not unknown in the business world [: “leveraged buy out” (LBO)].
The (Listed) Prohibited Transactions
Payment in advance
Financial transactions prohibited, in principle, include advance payments. The premature, i.e., satisfaction on the part of the SA of any of its non-expired obligations (art. 51 §1, section a’). Also, any advance payment of an amount that constitutes, in essence, a loan for the purpose of acquiring shares.
However, the acquisition of company shares as a result of legal payments is deemed permissible, for example advance payment of dividends to a beneficial shareholder, by virtue of which they purchase shares as an investment.
The granting of a loan (806 Civil Code) to a third party, by the SA, for the purpose of acquiring its shares, is also a non-permissible transaction, subject to the penalty of invalidity (art. 51 §1, section a’). Any different characterization by the parties becomes irrelevant, when it bears the characteristics of the loan by law.
The provision of a guarantee by the SA (to, usually, credit institutions) for the granting of loans to a third party, with the aim of the latter acquiring its shares, is also not permitted (art. 51 §1, section a’). The concept of guarantee (art. 847 Civil Code) must be interpreted broadly (1435/2005 Supreme Court – NOMOS Legal Database).
Therefore, this concept also includes the cases of SA’s guarantee in securities, cumulative debt underwriting or real collateral on the company’s property.
Dichotomy, however, prevails in theory and jurisprudence regarding the conclusion of guarantee contracts between the SA and third parties. Under the current law regime, it is supported by the theory that any contract of guarantee constitutes a case of refund of contribution. Therefore, articles 22§2 and 159 are directly applied. As far as jurisprudence is concerned, however, it is ruled to be absolutely invalid, i.e. falling within the meaning of the “guarantee” of art. 51 (31/2002 Multimember Court of First Instance of Piraeus, 2881/2004 Multimember Court of First Instance of Piraeus–Nomos Legal Database).
The (cumulative) fulfillment of a series of conditions is necessary in order to allow an exception to the rule of prohibited financing (51§1). Specifically:
Reasonable market conditions
A prerequisite for the validity of the aforementioned financings is, first of all, that they take place under the responsibility of the Board of Directors, with reasonable (:usual in transactional practices in similar cases) purchase terms (art. 51§1, a’).
Relevant indications are e.g. the level of the expected interest rate, the financial strength of the third parties, the overall security of the company, etc. In the opposite direction are e.g. the granting by the SA of interest-free loans or the provision of collateral without compensation.
The ascertainment of the solvency of third parties falls within the responsibilities of the members of the Board of Directors, and thus in their duties of due diligence.
Decision of the General Assembly
In order for third-party financing to take place for the acquisition of SA shares, a previous decision of the General Assembly is required (art. 51 §1, para. b΄). The relevant decision is taken with an increased quorum and a majority – unless there is a statutory regulation that provides for higher percentages (art. 51 §1, para. b΄, 130 §2 and 132 §2).
For the granting of a relevant license by the General Assembly, a corresponding notification by the Board of Directors is required. The Board of Directors, in particular, discloses the reasons and essential terms of each transaction and the interest it presents for the SA. Also, the related risks to its liquidity and solvency and the price at which the third party will acquire the shares.
The obligation to inform the Board of Directors is fulfilled by submitting a written report to the General Assembly, which is submitted to the public (of art. 13). The report must specify, among other things, the manner in which corporate interests are served by the intended financing.
It may be required to submit to the General Assembly another report of a certified chartered auditor-accountant. This is required when the financial support for the acquisition of SA shares refers to members of the Board of Directors of the SA or its parent company (within the meaning of art. 32 of Law 4308/2014), to its parent company itself or any surrogate persons thereof.
The above obligation is dictated in order to avoid a conflict of interests. In the case of a co-submission of the said chartered auditor-accountant report, the application of art. 99 is excluded. A typical case, in which the fulfillment of the above-mentioned co-submission obligation is required, is the case of the acquisition of its shares by members of its management financed by the SA buy-out [: management buy-out, (ΜΒΟ)].
Maintenance of net position
The last condition for the validity of a transaction from those described above is the maintenance of the net position of the SA (art. 159§1).
That is, it is required that the financial support of a third party by the SA takes place from its profits and free reserves (art. 51 §1, para. c΄). Otherwise, the relevant financial aid would be equivalent to a reduction of the company’s capital to an amount lower than its share capital and the other non-distributable elements of its net position. It would thus constitute a prohibited refund of contributions.
In order to comply with this condition, all the financing up to that point is taken into account. In order to further secure, in fact, the corporate property and, of course, the corporate creditors, the provision in the liability part of the balance sheet of a non-distributable reserve equal to the amount of financing from the SA is additionally necessary.
The Credit Institutions. The Staff of SA
The provision of financing by credit and financial institutions (art. 51 §4) is excluded from the above prohibition. Under the condition, however, that they fall within their “current” transactions and provided that they are conducted according to common transactional conditions.
Also excluded from these prohibitions is any transaction carried out for the purpose of acquiring shares by or for the staff of the SA or a company affiliated with it. The concept of staff includes any person who provides services to SA (or to a company affiliated with it); regardless of the type of contract between them (e.g. dependent work, services, project).
Illegal Funding: Legal Consequences & Liability of Board Members
The provision of financial assistance to third parties, in derogation of the provisions of art. 51, implies the absolute invalidity of the transaction in question (art. 51 §1, sec. a΄). The nullity is initial, final and irremediable. It occurs automatically, regardless of fault and knowledge or ignorance of the prohibition by the contracting parties. Possibility of curing of the flaw, in the sense of no. 183 CC, does not exist. This invalidity is examined ex officio by the court. Any waiver of its appeal does not produce legal effects (31/2002 Multimember Court of First Instance of Piraeus, 2881/2004 Multimember Court of First Instance of Piraeus–Nomos Legal Database).
The provision is void even if the recipient of the provision and the one who eventually became a shareholder of the SA are different.
Any financial benefit paid by the SA, by virtue of a void promissory note, is sought under the provisions on unjust enrichment (904 et seq. of the Civil Code).
The members of the Board of Directors are responsible against the company for any prohibited financing to third parties for the purpose of purchasing SA shares. They are personally liable for any act or omission. Their responsibility is, specifically, both criminal (art. 177 §4) and civil, as long as damage was caused to the SA (art. 102 §1).
The provision of credit to third parties by the SA for the acquisition of own shares is, in principle (and rightly so), prohibited. However, as such is possible, under certain conditions, to have beneficial consequences for the SA itself, it is envisaged (and reasonably) that a series of relevant conditions must be fulfilled for the acceptance of their validity. But what happens in cases where attempts are made to bypass the relevant prohibitions through third parties? About this see our next article.-
P.S. A brief version of this article has been published in MAKEDONIA Newspaper (September 11th, 2022).
Disclaimer: the information provided in this article is not (and is not intended to) constitute legal advice. Legal advice can only be offered by a competent attorney and after the latter takes into consideration all the relevant to your case data that you will provide them with. See here for more details.