Companies incorporated in the British Virgin Islands
("BVI") have been employed as joint
venture vehicles by those structuring corporate transactions in the
four corners of the globe.
It is common for each of two or more joint venture partners to
hold shares in a BVI Business Company which will, in turn, either
directly own an underlying asset or hold shares in a foreign
subsidiary which will then own the key economic asset, often
located in the jurisdiction of that subsidiary's
incorporation.
In either case, the balance of decision-making power as between
the board of directors and the shareholders, and the key rights of
the investors (as shareholders in the BVI company) will usually be
documented at the level of the BVI company.
Whether the underlying asset is a mining venture in sub-Saharan
Africa, a casino in south-east Asia or commercial real estate in
the City of London, there is one key element of commonality: the
shareholders in the BVI company need to be properly prepared, both
at the initial stage of drafting the documentation governing the
joint venture and, at a later stage, when examining options for
dispute resolution should things turn sour.
This article considers how shareholders in a BVI company can
anticipate and avoid common pitfalls when entering into a joint
venture arrangement, and describes some tactical options available
to shareholders in a BVI company when the relationship between the
shareholders has irretrievably broken down.
Conforming two parallel contracts
Once a term sheet has been signed, the parties often then look
to draft and negotiate a shareholders' agreement which, with
respect to a BVI joint venture company, will most frequently be
governed by the laws of a major onshore jurisdiction, such as
England and Wales, New York or Hong Kong.
However, whilst the shareholders' agreement will afford rights
and remedies to the parties as a matter of contract under the
relevant governing law, with respect to the key legal aspects of
the joint venture – ranging from the constitution of the
board of directors to matters reserved to the shareholders
– it is the memorandum and articles of association of the
BVI company (the "Memorandum and Articles") which are
important from the perspective of BVI law.
Section 11(1) of the BVI Business Companies Act, 2004 (as amended)
(the "Act") provides that the Memorandum
and Articles are binding as between: (i) the company and each
member of the company, and (ii) each member of the
company.
Pursuant to section 13(1) of the Act, where a resolution is passed
to amend the Memorandum or Articles, the company must either file
for registration with the Registrar of Corporate Affairs in the BVI
(the "Registrar") a notice of amendment
or a restated Memorandum or Articles incorporating the
amendments. Importantly, section 13(2) of the Act provides
that the amendment has effect from the date that the notice of the
amendment or the restated Memorandum or Articles are registered by
the Registrar – rather than the date on which the
amending resolution is passed.
The cumulative effect of these statutory provisions is that, in
the event of a conflict between the provisions of: (i) the
Memorandum and Articles, and (ii) the shareholders' agreement,
it is not always clear, as a matter of BVI company law, which
provisions should prevail (notwithstanding the existence of a
supremacy clause, commonly found in shareholders' agreements,
that the provisions of the shareholders' agreement shall
prevail over conflicting provisions in the Memorandum or
Articles).
The uncertainty which arises from such a conflict can manifest
itself not only in disputes between the shareholders as to the
efficacy of actions purportedly taken in respect of the BVI company
(for example, transferring shares or appointing and removing
directors), but also in the nature of the remedies available to an
aggrieved shareholder. A failure to conform the provisions of
the Memorandum and Articles to those of the shareholders'
agreement may mean that a shareholder will find that the scope of
remedies available to it is narrower than first
anticipated.
One critical way in which shareholders can protect themselves at
the outset of a joint venture is therefore to amend the provisions
of the Memorandum and Articles to reflect the provisions of the
shareholders' agreement to ensure consistency between the two
contracts.
Modifying shareholders' statutory rights: shares
The Act sets out the default position in respect of the rights
attaching to shares in a BVI company. Pursuant to section
34(1) of the Act, a share in a BVI company confers on the holder
the right to one vote at a meeting of the members of the company or
on a resolution of members, the right to an equal share in a
dividend, and the right to an equal share in the distribution of
surplus assets of the company.
However, parties entering into joint ventures frequently want to
create complex sets of rights attaching or related to shares, such
as enhanced dividend rights for certain classes of preferred
shares, put and call options which may be exercised in certain
circumstances, or detailed pre-emptive rights governing
restrictions on the transfer of shares.
The flexibility of the Act means that it is possible to
incorporate into the Memorandum and Articles bespoke provisions to
reflect the shareholders' commercial intentions. Section
9(1) of the Act is relevant in this regard, since it provides that
the Memorandum must state the classes of shares that the company is
authorised to issue and, if the company is authorised to issue two
or more classes of shares, the rights, privileges, restrictions and
conditions attaching to each class of shares.
By ensuring that all of the rights which are intended to attach to
the shares are set out in the Memorandum of the Company, and that
other bespoke mechanics (such as rights of pre-emption or put and
call options) are set out in the Memorandum or Articles,
shareholders can minimise the prospect of shareholder disputes
arising as a result of the unintended supremacy of the Act's
default provisions which might otherwise apply.
Modifying shareholders' statutory rights: appointing directors
This analysis applies not only to the rights attaching to
shares. It also applies to other issues in respect of which
the parties may have reached a commercial agreement, but in respect
of which the Act sets out a different, default position.
Unless this default position is modified in the Memorandum and
Articles, it may confer on the parties an unintended and
undesirable legal effect.
In practice, one such area is in relation to the appointment of
directors.
By way of illustration, four parties may embark on a joint
venture, each with a 25% shareholding in the BVI joint venture
company. The parties agree pursuant to the terms of a
shareholders' agreement that each shareholder shall be entitled
to appoint one director to the board of directors of the joint
venture company.
The default position under the Act is that directors may be
appointed by the members (unless the Memorandum or Articles provide
otherwise) or by the directors (where permitted by the Memorandum
or Articles). Since resolutions of members and directors are
typically passed by simple majority (unless the Memorandum or
Articles provide otherwise) and since, under the Act, the mere fact
of holding 25% of the shares in a BVI company does not carry with
it an automatic right to appoint one of four directors to the
board, the statutory position is inconsistent with the parties'
commercial intentions. Unless the Memorandum and Articles
have been properly tailored, one 25% shareholder may find itself,
as a matter of BVI law, unable to exercise its contractual right to
appoint a director.
The practical advice is therefore the same: the Memorandum and
Articles should clearly modify the default position set out in the
Act in order for the shareholders to avoid the prospect of
litigation arising out of frustrated commercial intentions.
Deadlock
A deadlocked BVI company can create enormous frustration for its
shareholders: decisions often cannot be taken either at shareholder
or board level (either because quorate meetings cannot be held, or
because no affirmative resolution can be passed even at a quorate
meeting), and decision-making in respect of the affairs of
downstream subsidiaries may also be frustrated for the same
reasons. Practically speaking, this may mean that the BVI
company is incapable of entering into key transactions, obtaining
new debt financing, or closing new rounds of equity
investment.
Deadlock at the level of the BVI company most often occurs where
shareholders have equal rights to vote (for example, where 2
shareholders each hold 50% of the shares, or 4 shareholders each
hold 25% of the shares), and an equal number of directors are
appointed by each shareholder. A dispute at shareholder level
therefore frequently also becomes a dispute at board level.
One key way in which deadlock can be anticipated and prevented is
by incorporating appropriate provisions into the Memorandum and
Articles of the BVI company.
There are various share transfer provisions (so-called
"Russian roulette" and "Texas shoot-out"
provisions) which may be incorporated into the Memorandum and
Articles, and which would operate in the event of a deadlock to
enable one party to acquire the shares of the BVI company held by
the other party. These provisions could be triggered by a
deadlock at board or shareholder level, and could be drafted only
to operate when shares are held by two 50%
shareholders.
These types of provisions can, however, lead to an extreme result
since their exercise would potentially involve breaking the
deadlock by one party buying the shares of the other party.
In some circumstances, this may not be commercially viable (for
instance, if one party does not have sufficient financial resources
to be capable of acquiring the shares of the other party, or if
both shareholders provide an invaluable asset or service to the BVI
company which would cease to be available to the BVI company once
that party is no longer a shareholder).
Deadlock could instead be referred to arbitration, and the
Memorandum and Articles could be amended to incorporate a provision
which would operate broadly as follows:
(i) when a deadlock occurs (at board or shareholder level) and it
cannot be resolved within prescribed parameters, each party
appoints a representative to try to resolve the deadlock, and each
party would be bound by any agreement made by those
representatives; and
(ii) in the event that the representatives are unable to agree on
a course of action, the dispute is referred to an arbitrator, whose
decision would be final and binding on the parties.
Resolving disputes
Since it is a commercial reality that shareholders may seek to
exit their investment if the business objectives of the joint
venture have failed or if the relationship between the shareholders
has broken down, the range of remedies available to shareholders in
BVI companies should be regarded as being as attractive as the
initial advantages of incorporating a joint venture company in the
BVI.
Disputes between shareholders at the level of the BVI company are
often driven by one party's attempt to gain control of an
underlying asset or, if there are various subsidiary companies
between the BVI joint venture vehicle and the underlying asset,
control over the affairs of the downstream subsidiaries. The
mechanics of seeking to achieve this control have innumerable
permutations, and may take the form of a majority shareholder
seeking to dilute the shareholding of one or more of the other
shareholders, creating classes of preferred shares which are only
issued to one shareholder, and seeking to exercise influence at
board level through one or more board appointees to control the
convening and conduct of board and shareholder meetings in their
favour.
Shareholders in BVI companies should be aware that there are a
number of useful tools that can be employed in the event of a
dispute:
- Court ordered shareholders' meeting
Where a quorate shareholders' meeting is incapable of being
held (for example, because one shareholder deliberately fails to
attend a shareholders' meeting in order to paralyse the
company's decision-making), section 86 of the Act can provide a
useful remedy.
The Court may (on the application of a shareholder or director)
order a meeting of members to be held and conducted in such manner
as the Court orders if it is of the opinion that it is
impracticable to call or conduct a meeting in the manner prescribed
by the Memorandum or Articles, and it is in the interests of the
members that a meeting be held.
The Court could therefore order that a shareholders' meeting
be held with a reduced quorum requirement, although it should be
noted that, in order for the Court to grant this remedy, it is
likely to be necessary to demonstrate a pattern of frustrating
behaviour by the shareholder in question, which could take time to
establish.
- Remedies for unfair prejudice and restraining or compliance orders
Section 184I of the Act contains an arsenal of potential
remedies for a shareholder who is able to demonstrate that the
company's affairs are being conducted in a manner which is
oppressive, unfairly discriminatory or unfairly prejudicial to him
in his capacity as a shareholder.
The Court has discretion to make such an order as it considers fit
including, but not limited to: requiring the company or any other
person to acquire the shareholder's shares or to pay
compensation to the shareholder, regulating the future conduct of
the company's affairs, amending the Memorandum or Articles, or
directing the rectification of the records of the company.
Under section 184B of the Act, if a company or a director engages
in, or proposes to engage in, conduct that contravenes the Act or
the company's Memorandum or Articles, then the Court may make
an order directing the company or director to comply with, or
restraining the company or director from engaging in conduct that
contravenes, the Act or the company's Memorandum or
Articles. This provision may be employed, for example, in
seeking to restrain a director from engaging in conduct which
contravenes his statutory duty, inter alia, to exercise his powers
as a director for a proper purpose and not to act, or agree to the
company acting, in a manner that contravenes the Act or the
Memorandum or Articles.
- Just and equitable winding up
Under the BVI Insolvency Act 2003, a company, its board of
directors or a shareholder (amongst others) may apply to the Court
for the appointment of a liquidator on the grounds that it is
"just and equitable" to do so.
This phrase is widely interpreted and, rather than being confined
to particular instances, includes situations such as fraud or bad
faith in the formation or the running of the company, the failure
of a company's objects, disappearance of the justification for
the company's continued existence, deadlock in the
company's management, and a breakdown in trust and confidence
between the members in a "quasi-partnership"
company.
Since the ultimate consequence of this route is the dissolution of
the company (the assets of the company having been realised, a
dividend paid to creditors and any surplus returned to the
members), it may be something of a last resort for a disgruntled
shareholder.
Conclusion
Joint ventures will often carry with them a degree of commercial risk for the parties involved – whether in relation to the expected financial performance of the underlying business, the impact of adverse events in the global financial markets on the business' market sector, or disagreement between the shareholders as to the joint venture's ongoing strategic direction. It is therefore vital that shareholders in BVI joint venture companies take control over one area in which they can determine events: in mitigating the prospect of a dispute arising between shareholders due to conflicting contractual arrangements, and employing careful tactical planning if a dispute does arise.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.