Several companies may have recently faced the fact, that the profit of the year of 2020 does not meet their expectations; either the profit or loss before tax or certain elements of the companies’ equity have decreased compared to the previous year. However, less entities are aware of the provisions that, given the company’s financial circumstances, company owners are obliged to remedy the poor equity situation.
In our article we present the provisions that limited liability companies shall take into consideration every year to avoid possible undercapitalization, whereas in the following part we provide possible solutions to arrange the negative situation.
The managing director shall convene the member(s) to arrange the situation in the following cases:
1. The company’s equity has dropped to half of the initial capital due to losses
We often see, mostly at companies having the headquarter in Austria or Germany, that the registered capital determined is as high as tens of millions of Hungarian forints. The ground of that in most cases is the fact that the registered capital is the only financial value that appears in the registry extract and, mainly for reputational reasons, the decision makers of the Company have decided to keep that high. Indeed, customers and suppliers’ first impressions are highly influenced by the easily accessible value –despite the fact that the evaluation of a company’s capital structure is much more complex. The highly kept registered capital not based on business and regulatory reasons easily result in obligation to take actions after the acceptance of the annual report by the owners.
2. The company’s equity dropped below the minimum amount defined by law
In case a limited liability company’s accumulated losses in 2020 and certain elements of the company’s equity (issued capital, capital reserve, accumulated profit reserve, limited reserve, evaluation reserve, profit or loss after tax) are less than 3 million Hungarian forints in total (which in case of a higher negative accumulated profit reserve easily occurs even temporarily), the affected company is also obliged to act.
3. The company is jeopardized by insolvency (or has stopped making payments) or its assets do not cover its debts
It is the so-called blanket rule. The threat of insolvency, especially in connection with the insolvency proceedings, has broad literature, judicial practice. In light of the situation of the affected company, related contractual and other payment obligations, together with the knowledge of the company’s assets, the managing director is able to decide whether it is necessary to resolve on any kind of capital contribution.
The knowledge of the legal obligations is important, because if the members of the affected company do not grant the necessary capital or remedy the undercapitalized situation (e.g., by capital reduction) in three months, their only option is to decide about the company’s transformation (merger, division) or dissolution. It is furthermore apparent that both the managing director and the members have obligations to act by law, which shall be transparently fulfilled in order to avoid the challenge of their liability and related negative consequences.
Capitalization is recommended to be tailor-made, because with the appropriate solution not only the capital would be rearranged, but it is also possible to simultaneously (re)negotiate the members’ roles, obligations and profit share in the company.
Please read further: Possibilities to rearrange certain elements of the company’s equity – solution proposals