The Montenegrin Corporations Law: a step in the right direction for attracting foreign direct investments?
This article examines the new Montenegrin Corporations Law (Official Gazette of Montenegro, No. 065/20 of 03 July 2020) (‘the CL’), which was enacted by the Montenegrin Parliament on 25 June 2020 and became effective on 11 July 2020.
As a candidate country for membership in the European Union (EU), the Republic of Montenegro undertook to harmonise its legislative framework and standards with EU regulations. Montenegro also holds potential for attracting foreign direct investments (FDIs) into its economy, chiefly in the tourism industry, whilst also possessing natural resources that require foreign investment if they are to be put to use appropriately.
Foreign direct investments had been constrained by the previous iteration of the Corporations Law (Official Gazette of the Republic of Montenegro, No. 6/2002; Official Gazette of Montenegro, Nos. 17/2007, 80/2008, 40/2010 – Other Law, 36/2011, and 40/2011 – Other Law), given the relative paucity of its provisions governing the standing of corporations, which offered little legal security to potential investors (especially in terms of safeguards for minority shareholders). This limited investment into the Montenegrin economy despite its huge potential.
The Serbian Corporations Law seems to have served as a pattern for the new CL, as many provisions of the two pieces of legislation are either similar or identical. The new Montenegrin CL harmonises rules governing corporate status with EU legislation to a large extent.
A look at the CL immediately reveals a series of features either absent from previous versions of the law or now regulated more comprehensively than before. For instance, the CL:
– governs the establishment of branch offices;
– removes the obligation for businesses to use official stamps;
– regulates liability for business debts;
– introduces the concept of (lifting the corporate veil);
– regulates the roles of company representatives;
– governs the concept of prokura, a special type of corporate power of attorney;
– defines special duties owed to a company; and
– introduces cross-border absorption-type mergers.
The CL does not introduce any new forms of incorporation, but does regulate many types of companies in greater detail.
II. General features of companies
Public interest entities. Article 4 of the CL introduces the concept of ‘public interest entities’ (PIEs), which are defined as joint-stock companies (‘public-interest joint-stock companies’) or limited liability companies (‘public-interest limited liability companies’) that are incorporated pursuant to the CL and issue securities or other financial instruments admitted to trading in the regulated market of Montenegro or other state at the application of the issuer. In other words, these are businesses incorporated as joint-stock companies (JSCs) or limited liability companies (LLCs) that issue securities (stocks, bonds, and warrants) and other financial instruments negotiable on the capital market and have the status of PIEs, meaning they are subject to an additional set of requirements, oversight, and supervision pursuant to other legislation, such as the Capital Market Law.
Liability for business debts. The CL introduces the concept of corporate liability in that it envisages the application of a fundamental rule of corporate law whereby every business that is a legal person assumes unlimited liability for its debts. Being a legal person, a company exercises all rights and is liable for all debts arising from legal transactions with third parties, whereas its members may also have some liability, depending on the company’s form of incorporation. The provisions that govern this issue also envisage liability for debts incurred before and after incorporation and in the course of trading.
Lifting the corporate veil. This is a major feature of the CL that seeks to prevent abuse of corporate personhood, first addressed in UK jurisprudence (in the case of Salomon v A Salomon & Co Ltd), which was regulated differently in the previous iteration of the law. Here, when one or more limited partners, members of an LLC, or shareholders abuse the fact that they are not liable for the debts of that limited partnership, LLC, or JSC, their joint and several unlimited liability may be established by the relevant court. It is considered abuse for a limited partner, LLC member, or shareholder to:
1) Use the company to attain a prohibited objective;
2) Use the company or its assets to the detriment of the company’s creditors;
3) Manage or dispose of the company’s assets in contravention of the law; or
4) Seek to gain profit for himself or third parties by diminishing the assets of the company even though he knows or ought to know the company will be unable to pay its debts.
A creditor may assert a claim against a member of a company who has abused the limited liability provided by company status within six months of learning of such abuse (this is the ‘subjective’, or relative time limit), or at the latest within three years of the abuse being committed (the ‘objective’ or absolute time limit).
Representation. The latest CL finally provides comprehensive rules for statutory representatives of companies: these are partners, for partnerships; general partners, for limited partnerships; and chief executive officer or chairperson of the management board for JSCs and LLCs. Apart from these statutory representatives, a company may have other representatives who must be duly registered with the appropriate business register.
The CL also introduces the concept of prokura, a special type of corporate power of attorney that allows its holder to represent the company. A prokura is granted by the company’s managing director or annual general meeting, and may be individual or joint. The holder of the prokura may enter into legal transactions and take de facto actions for and on behalf of the company, but requires special authorisation to sign loan agreements, give guarantees, issue bills of exchange, and the like.
Use of company stamps. In another innovation, businesses are no longer required to use official stamps, which is highly likely to facilitate and expedite day-to-day business.
Special duties owed to a company. The CL envisages a set of special duties owed to a company (duty of care, disclosure of personal interest, avoidance of conflict of interest, confidentiality, covenants not to compete) by a variety of individuals (members of a company, executive officers, directors, liquidation managers, and the like), and also defines connected persons. A person who infringes on a duty owed to a company may face legal action within six months from the company learning of such infringement, but no later than five years after the infringement is committed. These provisions introduce requirements for managing and controlling companies on their corporate officers and so provide greater safeguards for individuals who exercise rights in relation to companies or have interests in them. Ultimately, this will reduce scope for abuse, in particular in companies with few members.
III. Sole traders
The new CL regulates how sole traders gain legal personality and governs in detail the registration procedure with the Central Business Register of Montenegro (CRPS).
Business manager. The CL introduces the position of the ‘business manager’, an officer to whom a sole trader may entrust the day-to-day management of their business. Only a natural person employed by the sole trader and registered with the CRPS may serve as a business manager.
Some criticism may be levelled at the legislator for having failed to regulate issues such as temporary suspension of trading (a characteristic feature of sole traderships), continuation of trading by the sole trader’s heirs, and continuation of trading as a company (through a change in the form of incorporation from sole trader to an LLC).
IV. General and limited partnerships
The CL now requires general and limited partners to enter into agreements on the creation of the general or limited partnership; in addition, all partners’ signatures must be notarised, the notarised agreements must accompany an application to register the partnership.
The law regulates in detail the partners’ rights and liabilities, their mutual legal relationships and those with third parties, trading, and dissolution of a partnership and ways in which a partner can lose that status. Also governed in detail are the rights and duties of members of a limited partnership and the termination of their membership.
V. Limited liability companies
Limited liability companies account for the vast majority of businesses, and as such the new law is to be commended for regulating and elaborating their status much more comprehensively.
Firstly, there is a clear distinction between standard LLCs and LLCs that are public interest entities, as discussed above. Secondly, the law governs in great detail the incorporation of single-member LLCs by either natural or legal persons, acquisition of own equity interest, pre-emption rights and their infringement, termination of membership (through death or dissolution of the company, or by leaving the company, transferring one’s equity interest, or being ejected from the company).
A third innovation pertains to the company’s management bodies. Unlike in the previous law, an LLC (with the exception of single-member LLCs) must now have both an executive director and an annual general meeting. Further, LLCs that meet a set of conditions, those deemed to be large enterprises pursuant to the Accounting Law, and public-interest LLCs, must have the full set of management bodies as envisaged for JSCs.
The new CL also comprehensively regulates the powers and operation of the annual meeting, position of the chief executive officer, and arrangements related to restructuring LLCs by means of mergers and acquisitions and changes to their form of incorporation.
One complaint here is that the legislator has retained the practice seen in the previous iteration of the law of subjecting LLCs to rules analogous to those applicable to JSCs, which seems hardly justifiable given the importance of LLCs as a distinct type of entity.
VI. Joint-stock companies
Just as with the previous iteration of the law, the new CL devotes much of its content to JSCs. It focuses primarily on regulating the incorporation and registration of JSCs; reversing of company incorporation; articles of association and memorandum of association and the procedure for their amendment; and requirements for registering any changes and making disclosures.
Shareholders’ rights. The new law more comprehensively regulates the rights of shareholders, a major point of interest for any potential investors into a JSC, in particular safeguards for dissenting shareholders. The new features are:
– Shareholders’ ownership rights: entitlement to a share of the company’s profits disbursed as dividend where the company decides to distribute profits to its shareholders; entitlement to residual value of the company’s assets following liquidation; entitlement to free-of-charge shares in the event the company uses its reserves to increase its capital stock, subject to some restrictions set out in the law; first option to buy any new shares or convertible bonds issued by the company, subject to some restrictions set out in the law; and right to dispose of their shares as envisaged by the law;
– Shareholders’ non-ownership rights: right to take part and vote in the annual general meeting; right to be informed; right to retain experts; right to pose questions; and right of dissenting shareholders to sell their stock.
Company management. Unlike the previous law, which envisaged only a single-tier management structure (annual general meeting, board of directors, and chief executive officer), the new CL allows companies to also institute two-tier structures (annual general meeting, supervisory board, and management board). The CL also comprehensively regulates the appointment, powers, and operation of all company bodies.
Bonds. The CL also governs the issue of bonds, which constitute the most common category of serial securities apart from shares. Bonds are fixed-income instruments that entitle their holders to interest and other rights set out in the bond issue or bond repurchase agreement. Apart from regular bonds, the CL also recognises convertible bonds, which may be exchanged for shares of stock in the company. Lastly, the law also regulates the general procedure for issuing bonds and the rights these instruments grant to their holders.
In addition to these changes, the CL comprehensively governs capital increase and reduction procedures. Unfortunately, it has missed the opportunity to introduce members’ capital contributions, which in effect constitute lending by members to the company, pursuant to decisions of the annual general meeting, that are a much easier and simpler option for the firm to enhance its liquidity than formal loans.
VII. Branch offices
The CL permits companies to establish branch offices, special organisational units that lack legal personality and operate away from the registered seat of the company. A branch office may act only for and on behalf of its parent company and may only engage in business that the parent company is registered for.
Branch offices are established pursuant to decisions of the appropriate company bodies. These decisions must include the name and seat of the parent company, name and address of the branch office, and name(s) of person(s) authorised to represent the branch office and company, including address and national identification number (or, for foreign nationals, passport or other identification number).
VIII. Compliance with the CL
Joint-stock companies and LLCs registered with the CRPS before the entry into effect of the CL are required to align their organisational arrangements (structure, articles of association, and other internal enactments) with the new CL and register these changes within nine months of the effective date of the law.
Other companies registered with the CRPS before the entry into effect of the CL are required to align their organisational arrangements with the requirements of the law and register these changes with the CRPS at the latest within 18 months from the effective date of the law.
Sole traders registered with the CRPS before the entry into effect of the CL are required to align their organisational arrangements and apply for registration with the CRPS pursuant to the new law within six months from the effective date of the law.
In the new CL, Montenegro has seemingly finally gained a piece of legislation that comprehensively regulates the status issues of businesses. The law is to a large extent harmonised with EU rules and represents a step towards greater legal predictability for both foreign investors and Montenegrin firms, both established ones and those intending to incorporate. That being said, the law regrettably leaves some issues unregulated, including capital contributions, compulsory repurchase and sale of shares/equity interests and related procedures, application of JSC rules to LLCs, and a number of rights and obligations in the event of restructuring (through mergers and acquisitions and changes to a company’s form of incorporation).