The decision by the general meeting of a limited liability company to distribute profits is a process that has profound legal and economic consequences for the company, its shareholders and creditors. The Supreme Court of the Czech Republic (hereinafter referred to as the "SC") dealt with this issue in its resolution in case No. 27 Cdo 1306/2023 on 29 November 2023.
The Supreme Court dealt primarily with the transferability of the provisions on the decision of the general meeting of a joint stock company (hereinafter referred to as "a.s.") on the distribution of profits to the relations of a limited liability company (hereinafter referred to as "s.r.o."). This further defines the difference in their nature.
Among other things, the SC in its order refers to the Collection of Judicial Decisions and Opinions No. 9/2020, in which it dealt with the regular financial statements as the only eligible basis for the distribution of a company's profits.
On 8/1/2021, the company held a general meeting of shareholders, the main topic of which was the revocation of the resolution of the 2020 general meeting on the distribution of the company's 2019 profits. At the same time, the 2019 financial statements were approved, as well as the resolution on the distribution of the company's 2019 profits.
The resolution on the distribution of the 2019 profit distributed the amount of CZK 2,000,000 (point b) among the shareholders in proportion to their shareholdings, with the remaining profit of CZK 367,000 not being distributed (point d).
The majority shareholder voted in favour with 67 votes in both cases, the minority shareholder voted against with 33 votes and was therefore outvoted, the original resolution of the General Meeting was cancelled and a new resolution on the distribution of the profit was adopted. The minority shareholder lodged a written protest against this resolution of the General Meeting.
The Regional Court found that the resolution of the general meeting in point (d) was null and void. On the grounds that the right to a share of the profits could be considered one of the 'main rights' and the economic situation of the company allowed for the distribution of the profits and there were no urgent reasons why the profits should not be distributed. Among other things, the Court of First Instance emphasised the prohibition of abuse of the majority of votes.
On the company's appeal, the High Court in Prague amended the order of the Court of First Instance in its operative part to dismiss the application for a declaration of nullity in point (d). Although the Court of Appeal agreed that a share in the profits is one of the main rights of a shareholder, in the present case it considered that the court's interference in the internal affairs of the company was disproportionate, as there was no serious reason for it, since 85 % of the profits had been distributed. 'The failure to distribute 15% of the profits among the shareholders is entirely within the discretion of the corporation'.
Further, the High Court formulated the conclusion that there was no abuse of voting rights as, in its view, the mere fact that a person disposes of a majority of the voting rights is not sufficient.
The appellant appealed against the Court of Appeal's decision, arguing first of all that there was no compelling reason in the present case why the profits should not be distributed. She also submitted that the very reason for granting her application was the abuse of voting rights by the majority shareholder due to the existence of internal conflicts between the shareholders.
On appeal, NS submits that the share in the profits of a corporation is determined on the basis of the annual or extraordinary accounts, that the right to participate in the profits of a corporation is one of the fundamental rights of a shareholder, and that the general meeting of a corporation may decide not to distribute profits only for an important reason and in compliance with the prohibition of abuse of majority vote.
"The above conclusions are not, however, without more, transferable to the circumstances of an LLC."
This is primarily justified by the SC on the grounds that an a.s. is a purely capital company, whereas an s.r.o. is mixed in nature. Although the regulation of the two types of companies is to some extent dispositive and allows the companies to be "close" to each other in terms of the internal set-up, it is true that this different nature does not allow the conclusions adopted for a.s. to be transferred to s.r.o. without further consideration. Primarily because the shareholder is primarily an investor, bringing capital, whereas the shareholder of an LLC is not limited to that role and is much more personal in nature.
The NS concludes from the above that by the different nature of the shareholders, the general meeting of an LLC is not limited in deciding on the (non)distribution of profits, as is the case with an Inc. The prohibition on the abuse of the majority of votes to the detriment of the whole obviously applies to the LLC.
In the conclusion of the order, the SC addressed the fact that the Court of Appeal overlooked the fact that the general meeting of the company, by the contested resolution, decided on 8 January 2021 to distribute the profit on the basis of the financial statements prepared for the 2019 financial year. In doing so, the SC interpreted in the Collection of Judicial Decisions and Opinions No. 9/2020 that the proper financial statements are only an eligible basis for the distribution of profit until the end of the following financial year. The above conclusion, although accepted for the situation of an a.s., is also fully applicable to an s.r.o.
This is primarily to protect the rights of the company's creditors. Respectively, the distribution of profits should not have negative effects on the company's creditors. The prerequisites that ensure the protection of the rights of the company's creditors are current accounts and a balance sheet test, which cannot be carried out without current accounts.
Therefore, the 2019 financial statements were not an eligible basis for the AGM's decision on the distribution of profits in 2021. "If the general meeting decides to distribute profits on the basis of ineligible financial statements, this decision has no legal effect";
"If the contested resolution of the general meeting does not have legal effect, it shall be regarded as if it had not been passed."
In practice, this means that the general meeting of an LLC can decide on only a partial distribution of profits among the shareholders without having an important reason for doing so, so it is much less restricted by law than an LLC. It is also important to add that the NS of a limited company admits "the prohibition of misuse of votes to the detriment of the whole".
It is also important to keep an eye on the timeliness of the accounts, because if the accounts are not up to date, the resolution of the AGM will not be legally effective and will be viewed as not having been passed.
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Matěj Menšík contributed to this article.
