The Commercial Law
of the Republic of Latvia prescribes that the articles of association of a capital company (Limited Liability Company or Joint Stock Company) along with the memorandum of association are the documents of incorporation of a capital company. Pursuant to the Commercial Law, what must be included in the articles of association and what should be included to avoid further disagreements among shareholders? Let’s view Limited Liability Companies this time.
Pursuant to Section 1587
of the Civil Law and Section 144
of the Commercial Law, it can be concluded that the articles of association are a private deed that creates private liabilities and binds only company, its shareholders and officials (Board and Council members)
. Therefore, in the articles of association and memorandum of association, the founders of a capital company agree upon the key foundation and further operation regulations of the newly established legal entity.
What must be included in the articles of association of a capital company? The regulations in regard to the articles of association of the two types of capital companies — Limited Liability Company (SIA) and Joint Stock Company (AS) — differ. It is primarily related to the fact that SIA is a classic example of a closed capital company, AS, however, is an open company whose shares can be the object of public trade.Section 144
Paragraph One and Two of the Commercial Law provides the scope of mandatory information that must be included in the articles of association of a capital company. Information referred to in Section 144
Paragraph One of the Commercial Law, is considered mandatory and is sufficient for a capital company to be registered and entered with the Commercial Register, i.e., the articles of association of a company shall include
:1) the firm name of the company;3) the time period or goals of the activities of the company (if the company is founded for a specific period of time or to reach a specific goal);4) the amount of the equity capital, the number of shares and nominal value;6) the right of the members of the board of the company to individually or jointly represent the company;
61) numerical composition of the board of directors (if any intended);7) the number of council members of the company (if the company has provided for a council);8) special provisions for the alienation of shares (if such are provided for);9) other provisions which the founders consider to be significant and which are not in contradiction to law.
It is important to provide that the founders of a capital company are entitled to include additional regulations in the articles of association to reduce the possible risks of raiderism and increase the security of decision-making of a capital company. Section 144
Paragraph One Clause 9 of the Commercial Law provides that a private document may include variations of the provisions of the Commercial Law, however, those are permissible as long as they do not contradict with the requirements of the laws and regulations. For example, decision No. 1‑5n/226
dated 23 September 2019 of the Chief State Notary of the Republic of Latvia provides that a capital company in its articles of association is not entitled to limit the representation rights of Board Members, establishing formal representation rights. In the case under review, the articles of association of the capital company provided that the Board consists of several Board Members and one of them is the Chairman of the Board. The articles of association of the capital company prescribed that the Chairman of the Board is entitled to represent the company separately but the Board Members can represent the company only together with the Chairman. In this case, the rights of Board Members to represent the capital company are formal. The representation rights of all Board Members have to imply legal meaning or have to be actual. Namely, a Board Member who is entitled to represent a company together with another Board Member (Board Members) entitled to represent the company separately, cannot impact the company’s expressions of will. This does not comply with the provisions of Section 3
Paragraph Two and Section 303
of the Commercial Law and Section 1413
of the Civil Law.
Implementation of additional provisions in the articles of incorporation that do not contradict with the Commercial Law is primarily related to the execution of the principle of private autonomy of founders of a capital company. Based on the principle of private autonomy existent in the civil law, the subjects of the law are equal and they are entitled to establish their mutual legal relations freely.
From the practical point of view, the provisions included in the articles of association of a capital company can be divided by the goals of regulations, namely, by the external and internal functioning regulations of a capital company. In the majority of cases, the external and internal functioning regulations of a capital company merge and arise from each other.
The external functioning regulations include such provisions directed outwards and regulate the representation rights of a capital company or prescribe the establishment of civil relations of a capital company with third parties, for example:
- The number of Board Members (if more than one Board Member is planned) and defining the representation rights of the Board;
- The financial threshold when the Board has to ask the permission of the Council (if establishment of the Council is planned or it is mandatory) or shareholders’ meeting to conclude a contract;
- The composition of the Council, the procedure of appointment and dismissal;
- The regulations of repossession of shares of a capital company to third parties, other aspects that the founders of a capital company consider significant.
The internal functioning regulations of a capital company can be, for example:
- Regulations of relations between the shareholders of a capital company, for example, the procedure of convening shareholders’ meetings, quorum of participation and quorum at voting of shareholders’ meeting, voting rights of each shareholder, rights to receive dividends, shareholders’ pre-emptive rights to buy shares of a capital company, rights to exclude a shareholder of a capital company;
- Procedure of appointment and revocation of the Board and the term of powers;
- The competence and powers of the Council of a capital company (if establishment of the Council is planned or it is mandatory);
- Conditions when the operations of a capital company should be ceased (with liquidation or insolvency proceedings);
- Reporting year term of a capital company;
- Internal audit regulations;
- Procedure of submitting a claim against a Board Member;
- Authority to file a claim to the court and other aspects that the founders of a capital company consider significant.
Practically, after analysing the articles of association of different capital companies we can see two extremes: articles of association of capital companies, especially SIA, that includes three clauses, and the articles of association that include literally all sections of the Commercial Law that include the phrase “articles of association”. It is important to note that both versions comply with the requirements of the laws and regulations. However, in practice, the articles of association that consist of three clauses and those full of provisions of the Commercial Law have a low added value.
On the one hand, capital companies whose articles of association consist of three clauses, without doubt, can function. Establishing a capital company, such articles of association do not require legal assistance and do not cause any burden to the small capital companies. It is not necessary to include a list of conditions in the articles of association that will not be applied practically. The short articles of association often are created by such capital companies in which the only founder is also the only Board Member. In the majority of cases, no special regulations or special legal framework is necessary than for larger capital companies with more shareholders, Board and Council Members.
On the other hand, it should be noted that the legislator has consistently developed and adapts the legal framework to the modern challenges, changing or deleting archaic legal norms and/or legal norms that do not comply with the discourse of the law. Consequently, the articles of association that include several sections of the Commercial Law have to be amended or some clauses have to be deleted eventually. This is due to the principle referred to in Section 144
Paragraph One Clause 9 of the Commercial Law that the text of the articles of association cannot contradict the law, consequently, when the law is changed, the text of the articles of association should be amended or parts should be deleted. It is important to note that as a result of amendment to one provision of the articles of association it should be assessed whether it does not impact the validity of other provisions of the articles of association and/or amendments to the provision does not impact the system of the articles of association and cause logical contradictions between the provisions of the articles of association. This creates additional expenses and is time-consuming for a capital company. For example, if any of the shareholders of a capital company is a foreigner or a foreign legal entity, additional expenses will be incurred to submit request for documents and translations. Therefore, large amount of resources of a capital company is spent uselessly and used to introduce changes without any practical input.
The founders of a capital company have to be aware that each provision of the articles of association have to be practically applicable and should serve to ensure functioning of capital company or to solve such practical matters or cases that might arise during the operations of a capital company. An expanded text of the articles of association is useful only if it has a practical impact on the operations of capital company in line with the will or the founders (later also shareholders). Otherwise, it is only an imitation of the text of the articles of association without any practical value.
Aigars Strupišs, Commentary of the Commercial Law
, 2019, Commentary of Section 144.
The article was published in the magazine iBizness on the August 27th, 2020.
Available at https://ibizness.lv/raksti/padomi/padomi/ko-ieklaut-sia-statutos.