Confirmation of mechanism of capital restructuring, Court of Appeals, Luxembourg, 10 July 2014

On 10 July 2014, the Court of Appeals confirmed the conditions set forth mainly by the French courts regarding the mechanism of capital restructuring consisting of the reduction of share capital below the legal minimum by absorption of losses followed by an increase of capital to get the share capital above the legal minimum.

In the matter at hand, a Luxembourg public limited liability company (société anonyme) was held by two shareholders, the majority shareholder owning 75% of the share capital of the company and the minority shareholder 25%. At an extraordinary general meeting, the shareholders resolved to (i) increase the share capital of the company by incorporation of reserves, (ii) reduce the share capital to nil by absorption of losses, and (iii) increase the share capital through the contribution of a substantial amount of cash. Since, as a result of the share capital reduction, all the shares then issued by the company had been cancelled, and as the shares issued in the subsequent capital increase had only been subscribed by the former majority shareholder, the minority shareholder sued the company and the shareholder which, further to the above capital restructuring, became the sole shareholder of the company, in order to have the capital reduction declared null and void. On 22 December 2011, the Court of First Instance rejected the plaintiff's request and on 10 July 2014 the Court of Appeals confirmed the judgement.

The restructuring of the share capital by the reduction of share capital by absorption of losses, thus reducing the share capital to below the legal minimum, followed by a cash injection to get the share capital above the minimum (nicknamed in French "coup d'accordéon"), is envisaged by Article 69, paragraph 5 of the Law of 10 August 1915 on commercial companies, as amended, which provides that "where the reduction of capital results in the capital being reduced below the legally prescribed minimum, the meeting must at the same time resolve to either increase the capital up to the required level or transform the company."

Despite this legal ground, the Luxembourg courts have indicated that the validity of such capital restructuring was subject to two conditions, which were already set forth by the French Supreme Court in a judgement of 18 June 2002 (Société Lamy): (i) the restructuring is necessary for the company to survive and not to be declared insolvent, which would allow it to comply with the company's interests and (ii) it cannot be considered as an abuse of majority, in other words its goal is not to exclude any shareholder from the company: all the shareholders are to be treated equally.

As to the first condition, relating to the compromised financial situation of the company, a report was presented to the extraordinary general meeting of shareholders. Dismissing the arguments of the former minority shareholder, which claimed that said report did not reflect the actual financial situation of the company, the Court of Appeals considered that this report contained the reasons for the increase of capital as well as the information on the importance and necessity of the capital restructuring. According to the Court, no legal provision requires specific documentation to be sent to the shareholders in advance of the shareholders' meeting at which the capital restructuring is to be resolved upon. The minority shareholder also asked the courts to appoint an expert in order to check if the capital restructuring was necessary and whether alternative measures which were more protective for the minority shareholder could not have been implemented by the company. The Court of Appeals rejects this request on the grounds that if the conditions for the validity of the capital restructuring are met, it is not up to the judge to determine the opportunity of measures to be implemented to secure the survival of the company.

The second condition is satisfied if, on the one hand, the shares held by the majority shareholder and of the minority shareholder(s) are being cancelled in the same proportions in the framework of the capital reduction and, on the other hand, all the shareholders are being offered the right to subscribe for the new shares in the capital increase. This subscription right is the "guarantee" against an abuse of majority: if the shareholder decides not to exercise its subscription right, it is this decision which leads to its exclusion from the company.

Finally, the Court of Appeals confirmed that the capital restructuring was to be carried out by a capital reduction followed by a capital increase and not in the reverse order.