BUSINESS AND THE LAW: Limited Responsibility Societies Can Leave Investor

Out in Cold

In 1987, when the former Soviet Union introduced joint enterprises with foreign investment, the corporate vehicle the joint enterprise most closely resembled came to be called in the Russian Civil Code the "limited responsibility society," widely known by its acronym "OOO." From March 1, 1998, the OOO took its rightful place beside the joint-stock society as an investment vehicle with features fully fleshed-out by a federal law, the Federal Law on Limited Responsibility Societies.

Though the OOO is widely used among Russian entrepreneurs, not least because of its relative informality compared with the joint-stock society, most foreign investors have remained leery. This is especially true for those who recall the joint enterprise days. Such apprehensions are unlikely to be alleviated by the mature version.

The overall structure of the OOO, and the manner in which the legislator has approached issues of withdrawal, addition of new participants, adjustments to capital, and the like presuppose a considerable level of trust and good faith among the participants. Commercially, such a level of trust is often unjustified or simply unrealistic. The equity in an OOO, called a participatory share, is not a security, and its transfer from one participant to another may engage VAT.

Of particular concern is the possibility that participants in an OOO who in aggregate have not less than 10 percent of the charter capital may demand in a judicial proceeding that a participant in the OOO be expelled for making it impossible or difficult for the OOO to operate. Such a possibility can lead to abuse. On the other hand, the clause may allow deadlocks to be broken.

No less challenging for the investor will be the right of a participant to withdraw at any time irrespective of the consent of the other participants or of the society itself. In this event, the OOO must pay the withdrawing participant the time value of its participatory share as of the first yearly accounting balance sheet after notice of withdrawal or allow property in kind of the same value to be issued. Participants in joint enterprises will recall that when the Soviet Union disappeared, its legal successor in some cases withdrew its contributions and left the joint enterprise destitute.

Left open to interpretation, and of vital concern in this connection, is the extent to which the parties may use the contract to decide issues under a foreign applicable law. Narrowly construed, the constitutive contract governs the relations of the parties solely up to the moment of registration of the OOO and not thereafter.

Many may applaud the new law on the OOO simply in the interests of corporate governance. Provisions are included on "interested transactions," for example, that are borrowed almost verbatim from the Law on Joint-Stock Societies. These require a participant of the OOO to declare an interest in a transaction, for example, a contract, if it or a related party would benefit from the transaction. It does not require great imagination, however, to think of situations where one party's "interested transaction" may become, in the eyes of other participants, a cause of obstruction in the OOO that could engage the expulsion procedures.Time will tell whether the best intentions of the legislator have overreached into excessive interference in corporative internal affairs better left to the contract.

The law on the OOO has been years in the pipeline; probably in light of the Civil Code provisions there will not be a separate law on the "Additional Responsibility Society." That means the next major legislative brick in the edifice of Russian company law will be the limited partnership, which so far has produced little interest in the foreign investment community.

Professor W.E. Butler and Maryann E. Gashi-Butler, resident partners, Price Waterhouse CIS Law Offices BV, Moscow.