If it is a loan for the purchase of a property that will be used to recapitalize the company, it should be noted that the mortgage can significantly reduce or completely negate the value being contributed to the company.
Some well-known companies with significant financial strength have never opted to increase their share capital above the initial minimum, while bankruptcy has been opened for some with million kuna share capital, in which creditors will receive almost nothing.
Written by: Prof. Dr. Hrvoje Kačer
The share capital is the property of the company at the time of its establishment and at that moment is equal to the property of the company. However, over time this relationship changes, so the share capital usually remains the same, for a limited liability company 20,000 kuna, and for a joint-stock company 200,000 kuna (for joint-stock companies, the minimum amount in Austria is 70,000 euros, in Switzerland 100,000 Swiss francs, in Germany 50,000 euros, etc.), while the property of the company changes. However, the share capital changes only if there is an increase or recapitalization, or in cases of reduction. When it comes to the property of the company, it potentially changes constantly, with each payment and/or receipt of another’s payment, but also with the acquisition or disposal of non-cash assets. In the case of disposal, it does not have to be a permanent disposal, such as in the case of a sale, but also, for example, the encumbrance of a property of the company with a mortgage.
The fact is that Croatian law imposes no restrictions on the disposal of what constitutes share capital, which means it can be disposed of immediately after establishment – this will lead to the situation where, despite the formally existing share capital, what was paid in as share capital no longer exists, even if there is some debt, which means that the share or stake of that company can be worth zero kuna. This is not the case in all foreign laws, as there are solutions whereby share capital or part of it serves as a guarantee for payment to creditors if and when problems such as bankruptcy arise.
Reducing capital is not a weakness
Unlike the widespread misconception that share capital serves only to demonstrate the financial strength of the company, its primary role is for members to fulfill their obligations to the company by payment (and/or contribution of other assets of that value) and for their relationship in managing the company to be completely clear. The consequence of recapitalization does not necessarily have to be an increase in the financial strength of the company. Just as recapitalization is possible by payment into the company’s current account (which increases the financial strength of the company), it is also possible for the company to be recapitalized with used buses that still need to be paid off for some time, which means an increase in the company’s financial obligations. The share capital can be reduced for various reasons, for example, when the company has too much capital (which is rare), when dividends cannot be paid due to significant losses, when there is a withdrawal of a business share because a member has been excluded or has exited (in the case of a limited liability company)… Although this may not correspond to the actual state, the public will most often perceive a reduction in share capital as a weakness of the company, just as an increase in share capital will most often be understood and perceived as a sign of the company’s strength.
Regulation for evasion
Until now, there has been a very specific case of recapitalization in practice, solely due to a very awkward provision of the Companies Act (Article 390) which states that if the initial contribution in a limited liability company is made in cash and assets, the cash part cannot be less than 50 percent. This has led to an absurd situation that only benefits public notaries (they have double the work), although they are not at all to blame for it. Namely, a limited liability company is established with a cash payment of 20,000 kuna, so whoever wants to contribute some property to the share capital, due to Article 390, will not do so at the moment of the company’s establishment because in that case they would have to pay a much larger amount than 20,000 kuna, but will do it only two days after registration because then, in fact, the mentioned provision no longer applies. It is unfortunate that the legislator and relevant authorities do not react to this, which is a public secret, which is certainly the worst solution; anyone can make a mistake, including the legislator, and that is not too big of a problem, but if the survival of a legal norm that everyone (and legally) avoids is allowed, then there is a very simple choice: either change the provision or accept the infliction of damage to legal certainty and the rule of law. In Croatian law, this is neither the only nor an isolated case (one only needs to recall the avoidance of restrictions for foreigners when acquiring ownership rights over real estate), but this does not diminish the negativity of the phenomenon as a whole, nor of this case as part of that whole.
