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Corporate and CommercialStructuring and financing privateequity & venture capital transactionsLuxembourgJuly 2017

Corporate and Commercial

LuxembourgStructuring and financing private equity andventure capital transactions

Introduction

The jurisdiction of choice formany private equity and venturecapital investors / funds

Luxembourg has developed over thelast two decades into a major hubfor private equity and venturecapital actors, both as regards tothe location of their funds and asregards to the structuring andfinancing of their acquisitions.

Luxembourg maintains more thanever its commitment to the privateequity and venture capital industry,modernising and offering newstructures that are aligned with theneed of sponsors. Recent examplesinclude the complete reform of thecompany law in July 2016 (seereference 1) (the New Law), theintroduction of an anglo-saxon typeof partnership (SCSp)(see reference2) and of the reserved alternativeinvestment fund (RAIF) (seereference 3).

As regards the company lawreform, it is worth pointing out thatall existing Luxembourg companiesare required to amend their articlesof association to reflect thechanges introduced by the NewLaw prior to 23 August 2018. Duringthis period, the current legislationwill remain applicable to allprovisions of the articles ofassociation while the New Law willapply to all matters not mentionedin the articles of association. Aftersuch period, any provision in thearticles of association contrary tothe New Law shall be deemedunwritten and the mandatory rules

under the New Law will apply. Forany new company incorporatedafter 23 August 2016, the New Lawshall automatically apply in itsentirety.

One of the most flexible andattractive EU tax regimes

Luxembourg offers one of the mostflexible and attractive legalframework and tax regimes in theEU with a strong and ever-expanding double-tax treatynetwork and attractive effectivetax rates.

Tax benefits of investing throughLuxembourg- there is a wide participationexemption regime for dividends,capital gains and liquidationproceeds;

- there is no withholding tax onmarket conform interest paymentsmade by Luxembourg companies;

- there are generally no statutorythin capitalisation rules althoughminimum equity may be required insome particular cases;

- in most cases, there is noLuxembourg tax on any gainsarising on an exit realised by aLuxembourg non-resident investor;

- there is no withholding tax onliquidation proceeds;

- there are no CFC rules; and

- there is no stamp duty on the saleor issuance of shares.

1. Please refer to the client briefingon www.ogier.com, Luxembourg,Publications, "Luxembourgcorporate law - modernisation2016"

2. Please refer to the clientbriefing on www.ogier.com,Luxembourg, Publications, "NewLuxembourg limited partnerships"

3. Please refer to the clientbriefing on www.ogier.com,Publications, "New LuxembourgRAIF structure likely to proveattractive"


Vehicle selection

Which type of companies to use?

The vehicles most frequently usedto structure private equity andventure capital investments are:

Société à responsabilité limitée –private limited liability company(Sàrl) - when control over theshare capital is required (theshares are not freely transferable)

One of the most commonly usedvehicles for structuring anacquisition is the Sàrl. It is a privatelimited liability company, managedby a board of managers, for thebenefit of its shareholders. It ischaracterised by a very high degreeof flexibility and a very limited levelof statutory prescription. It is thuseasily tailored to the requirementsof single investor or joint ventureprivate investment. The Sàrl ischeck-the-box eligible.

Société anonyme – public limitedliability company (SA) - whenflexibility in terms of the variety ofinstruments that can be issued isrequired

The SA is a public limited liabilitycompany which is able (in contrastto a Sàrl) to make offers of sharesto the public, to have a widershareholder base and to provide ahigh level of confidentiality for itsinvestors. As a public company, itdoes however operate in a moreextensive statutory framework thana Sàrl.

Société par actions simplifiée –simplified public company (SAS)- when flexible governance isrequired

The SAS offers far more flexibility tothe shareholders and managersthan the SA. The SAS may be asuitable alternative to the SA or Sàrlfor shareholders with special needsin respect of the balance of powers,shareholder relations and the

distribution of profits (for examplestart-ups or joint ventures).

Société en commandite paractions – partnership limited byshares (SCA) - when sponsorswant to retain control over themanagement functions

The SCA is a corporate limitedpartnership with a share capital.This vehicle is frequentlyencountered in Luxembourgstructures. Although a limitedpartnership (with one or moregeneral partners/unlimitedpartners and one or more limitedpartners) the SCA is also subject tothe same, more extensive, statutoryframework as the SA. The SCA ischeck-the-box eligible.

Société en commandite simple –common limited partnership(SCS) - when tax transparencyand structural flexibility arerequired (with legal personality)sponsors can retain control overthe management functions

The principle which underpins theSCS is one of contractual freedomand the parties are free to contracton whatever terms suit them bestfrom a commercial perspective. Thepartnership agreement can betailored-made to the respectiveneeds and objectives of fundpromoters and investors.

Société en commandite spéciale –special limited partnership(SCSP) - when tax transparencyand structural flexibility arerequired (without legalpersonality) - sponsors can retaincontrol over the managementfunctions

The SCSp is very similar to the SCSand most of the legal regime whichgoverns it is identical. The onemajor difference between the twovehicles is that the SCSp does nothave legal personality.

Sàrl, SA, SAS and SCA are typicallyorganized under the Soparfi(Société de ParticipationsFinancières) or holding companyregime. The Soparfi is not governedby any specific law but is acompany incorporated undergeneral Luxembourg law and will inprinciple be a fully taxable residentcompany subject to ordinaryincome tax that can takeadvantage of the participationexemption in Luxembourg and thatis eligible to double tax treatybenefits.

The SCS and SCSp are fiscallytransparent and are therefore notsubject to tax and should not inprinciple be eligible to double taxtreaty benefits. They can howeverrepresent an alternative when afiscally transparent vehicle isrequired.

Comparing the different types ofcompanies used in private equityand venture capital deals

A table reflecting the key featuresof the most common Luxembourgvehicles is annexed to this clientbriefing.

Constituting the vehicle

Involvement of a public notary

Luxembourg being a civil lawjurisdiction, the SA, SAS, SCA andSàrl must all be constituted by aformal deed, made before aLuxembourg notary. This notarialdeed is the constitutionaldocument of the vehicle, includinga statement of all thecharacteristics of share classes. Inorder to carry out incorporation, theinitial economic contribution of thefounding investors must beunconditionally held by the vehicleat the moment of its incorporationwith a value at least equal to theminimum required by Luxembourglaw. Where this initial contribution/subscription is made in cash, thiscash sum, equal to at least EUR


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12,000 in the case of Sàrl and EUR30,000 in the case of SA, SAS orSCA, must be deposited with a(Luxembourg) bank account, incleared funds, in advance ofincorporation.

The SCS and SCSp, as an exceptionto this rule may be constitutedeither by a private, non-notarialinstrument between their members,or by notarial deed. No minimumcapital requirements apply in thecase of the SCS or SCSp.

Involvement of an independentauditor

For contributions other than cash ina SA, a SAS or a SCA, anindependent auditor (réviseurd'entreprises agréé) must issue areport on the nature of the assetscontributed and the valuationmethod used. The report mustconfirm that the value of the sharesissued, nominal and premium, is atleast equal to the value of the non-cash contributions. It is importantto note that the value reported onthe report are those which will bereflected in the notarial deed. Suchreport is not required in the case ofthe contribution of a receivable heldby the holder of a debt instrument(such as convertible bonds) againstthe company or for incorporation ofreserves, profits or share premiumto the nominal share capital.

It is worth mentioning that a similarreport shall also be prepared in thecase of a capital increase by way ofa contribution in kind and if, in thefirst two years of the company'sexistence, the company purchasesassets from a founding shareholderamounting to more than 10% of theshare capital of the company. As anexception that rule, no report isrequired when the transaction is inthe normal course of the company'sbusiness or is subject to control by aregulatory authority.

No similar requirements exist for aSàrl, a SCS and a SCSp.

Timing / steps

It takes usually around two to threedays to incorporate a new companyin Luxembourg. Many of the delaysexperienced when setting up aLuxembourg company relate to theKYC procedures that are required tobe complied with by Luxembourglawyers, domiciliation agents, banksand notaries. The usual steps insetting-up a Luxembourg companyare as follows:

The first step consists inidentifying a bank and adomiciliation agent (requiredif the client does not alreadyhave a place of business inLuxembourg to provideregistered office services) whocan also help with setting up abank account in Luxembourg.The domiciliation agent andthe bank will need to besupplied with AML/KYCinformation such a notarisedcopy of the passport of thebeneficial owner and a utilitybill of that person.Next step would be the wiringof the share capital to thebank account with the bankissuing a certificate confirmingthe blocking of the capital onthe bank account pending theincorporation of the companyto the officiating notary whowill incorporate the Company.Without that certificatestating that the funds are heldin a blocked account, thenotary cannot incorporate thecompany.Once the Company will beincorporated, the notary willissue a certificate confirmingto the bank that the capitalcan be released, i.e. theblocking will be lifted.The Company will receive legalpersonality at theincorporation meeting. Theregistration and filing of theincorporation deed with theCompany Register and thepublication of the

incorporation deed with theRESA (Recueil Electroniquedes Sociétés et Associations)are to occur after theincorporation meeting.

Once set up, there are also ongoingpractical requirements to consider.In particular, any change to thearticles of association of a Sàrl, aSA, a SAS and a SCA, any capitalincrease or reduction (unlessspecific provision has been madefor an authorised share capital),any merger or liquidation willrequire the involvement of a publicnotary and the passing of a notarialdeed, which can take up to a coupleof days to arrange.

The SCS and SCSp are generallyconstituted by a private instrumentbetween their members (thelimited partnership agreement) andno notary will need to be involved.Incorporation process is thereforegenerally relatively straightforward.It takes approximately one or twodays to establish a SCS or SCSp,longer if a general partner has to beset-up first.


Substance

One growing issue when structuringa deal through Luxembourg is therequirement by foreign taxauthorities of real substance forprivate equity and venture capitalvehicles in order to benefit from thedesired tax status. The required levelof substance is determinedprimarily by the tax rules of thecountry(ies) where the assets are /will be located and will have to beconsidered on a case by case basis.

Substance is therefore more amatter of creating a tangibleeconomic reality in Luxembourgthan an exhaustive list of prescribedrequirements. Factors focussed onby foreign tax authorities inassessing substance generallyinclude: (i) active, Luxembourg-based employees, (ii) majority ofdirectors being private individualsand Luxembourg tax resident, (iii)decision making process takingplace in Luxembourg, (iv) specificLuxembourg office space andutilities, (v) accounting and specificcompany documentation beingheld at the company's Luxembourgoffice and (vi) company bankaccounts being in Luxembourg withreal cash movement passingthrough them, ….

Implementing the adequate level ofsubstance comes at a cost.However, one of the moreimportant reasons to structureprivate equity deals throughLuxembourg in the first place is tobenefit from certain taxadvantages, which far exceed thecosts of creating the tax substance.

Structuring the investment

Thin capitalisation

Luxembourg tax law does notprovide for formal thincapitalisation rules applicable toholding activities. However, theLuxembourg direct tax authoritieshave developed an administrative

practice whereby a debt-equityratio of 85/15 is considered as asafe harbour for the financing ofshare capital participations. Thelatter ratio assumes a marketinterest rate on the debt portionwhereas interest-free shareholderdebt is considered as equity for thepurposes of the debt-equity ratio.Borrowings for on-lending purposesare disregarded for thecomputation of the above debt-equity ratio but may be subject toother minimum capitalization rules,such as for intra-group financing.Under current tax practice laid asdown in the Circular Letter n°164/2dated 28 January 2011, Luxembourgcompanies engaged in intra-groupfinancing activities must generallyhave a minimum equity at riskequal to at least the lower of either:(i) 1% of the nominal value of thereceivable refinanced or (ii) EUR 2million (or equivalent) in order tosubstantiate their real presence inLuxembourg.

Contributing the equity

Equity may be contributed to aLuxembourg company in cash or, byway of assets transfer. In relation toasset transfer, almost any tangibleor intangible assets may becontributed, provided that suchassets are capable of credible andreliable valuation. Eligible intangibleassets include securities, debtclaims, goodwill in a specificbusiness and intellectual propertyrights.

Where shares in an SA, SAS or SCAare issued partly paid up inconsideration of an undertaking tomake a contribution of assets, suchassets must be fully transferred tothe vehicle within five years. Inrelation to an SA, SAS or SCA, thevaluation of an equity contributionof assets must be supported by anup-to-date valuation report froman independent auditor. Thiscontribution-in-kind reportrequirement does not apply inrelation to a Sàrl but the valuation

of the assets must be certified tothe notary incorporating thecompany. No report is furthermorerequired when the contribution inkind consist in a receivable held bythe holder of a debt instrumentagainst the Company.

Equity may also be contributed inthe form of share premiumattaching to specific shares or inthe form of capital surpluscontribution (i.e. capitalcontribution without the issuanceof shares), with a great level offlexibility. Any share premium orcapital surplus contribution shall befully subscribed for and paid up.

Sweet equity contributions(apports en industrie) can also bemade to the extent that the sharesissued in consideration are notconsidered as share capital from anaccounting perspective and are nottransferable. Such shares willbenefit from governance and / oreconomic rights as set out in thearticles of association.

Equity contribution withoutissuing shares

An alternative way of making orincreasing equity contributions to aLuxembourg company (of anydescription) is by means of an"account 115 contribution". Thisinvolves a contribution of value tothe vehicle which is recorded to aspecial account/reserve in thecompany's books and records whichis characterised as equity but whichdoes not involve the issuance ofshares. The absence of shareissuance removes the requirementthat otherwise often applies tomake such transactions by way ofnotarial deed. This mechanismtherefore provides a highly flexibleway of ensuring a company's equitythat can be actively managed so asto ensure on-going compliance withrequired debt-equity ratios and cantherefore facilitate active portfoliomanagement.


The corporate requirements tomake such contributions are:enabling provisions in the articles ofassociation; ordinary (non-notarial)shareholders resolutions or boardresolutions; and implementation bythe directors. A short formcontribution agreement may alsobe required depending on thenature of the contribution.

Financing instruments

Depending on the legal form, theproposed strategy in terms ofeconomic and voting rights, aLuxembourg company can befinanced through a variety ofequity, debt and hybridinstruments. Here are the differentinstruments typically used byLuxembourg companies outsideexternal financing, ordinary sharesand intragroup loans:

Asset-tracking shares

Where a vehicle makes multipleinvestments with a commercialrequirement for asset-correlatedinvestment returns to differentclasses of investors then asset-tracking classes of shares and"account 115" equity contributionsare entirely acceptable. Such asset-tracking mechanisms arecontractually binding absentinsolvency. Insolvency-proofcompartments have statutoryrecognition in the case ofLuxembourg securitisation vehiclesor specialised investment funds. Inrelation to unregulated, investmentholding vehicles, insolvency-proofcompartmentalisation is notstatutorily recognised. If differential,asset-specific leverage is envisagedthen structural asset ring-fencingmay be advisable.

Alphabet shares

Also frequently encountered in theLuxembourg market is the use ofalphabet shares. This techniqueinvolves the issuance of severalclasses of shares whose economicrights are not correlated to onlycertain portfolio assets, but ratherapply to a pool of assets as a wholeand/or to specific investmentperiods. The use of a number ofclasses of alphabet shares of thisnature allows the vehicle to redeemindividual classes of those shares atappropriate points in time so as toeffect transfers of value, by meansof redemption payments toshareholders, following the receiptof value from the underlying assetpool. Such redemption paymentsdo not attract a withholding taxunder Luxembourg law, if properlystructured.

Redeemable shares

Redeemable shares may be issued,subject to the following statutoryrequirements: redemption isauthorised in the articles prior toissue of the redeemable shares;shares to be redeemed must befully paid up; and redemption canonly be funded from distributableprofits and reserves or the proceedsof a new issuance of shares madefor the purposes of the redemption.When funded from distributablereserves/profits, a figure equal tothe redemption price must berecorded in a non-distributablereserve in the accounts of thecompany. Any redemption premiummay only be paid where it will notcause the company's net assetvalue (as set out in its most recentannual accounts) to fall below itssubscribed share capital plus non-distributable reserves.

Mandatory redeemablepreference shares

In common with many otherjurisdictions, the equity in aLuxembourg investment holdingvehicle can be structured so as toprovide preferential distributionrights to certain share classes. Suchrights may take the form ofmandatory redeemable preferenceshares which may bear a fixed orvariable, preferred, cumulativedividend right. Such shares wouldoften be redeemable at the optionof the issuing vehicle in accordancewith its articles and carry apreferred right to repayment atmaturity. Mandatory redemption isoften set at the expiry of a fixedterm (such as 10 years). Such sharestend to have very limited votingrights and do not carry anyadditional profit entitlement abovethe preferred dividend. Whilstconsidered as equity from acorporate law perspective, theprevalent debt features of MRPSmay lead to a debt treatment foraccounting and tax purposes. MRPSare mainly used for on-lendingactivities and could therefore caterfor a tax deduction and paymentfree of withholding tax.

Non-voting shares

Non-voting shares can be issued bySA, SAS or SCA and are, as theirname implies, equity that does nothave a vote, even though it isentitled to a share of the profits.The economic rights of the non-voting shares must be specificallystated in the articles of association.The most typical rights for non-voting share are identical to thoseof ordinary shares apart from thelack of a vote at general meetings.Shares without voting rights shallrecover their voting rights when theresolutions of the general meetingamend their rights. The purpose ofnon-voting shares is to allow theholders of the ordinary shares tomaintain control. No-votingpartnership interests can also beissued by a SCS or a SCSp.


Preferred shares

Preferred shares carry thepreferential right to receive a fixedpercentage of profits before others.In some cases, they also offer thepreferential right to capitaldistribution before other classes. Asa result they often carry no votingrights.

Share with different nominalvalue

All companies can issue shares withdifferent nominal values. As regardsvoting rights, shares issued by SA,SAS and SCA will benefit fromvoting rights that are proportionateto their nominal value. With respectto the Sàrl, majority requirementsare determined based on theproportion held by each shareholderin the share capital of the company(irrespective to the number ofshares), thus achieving the sameoutcome. Through the issuance ofshares carrying multiple votes, it ispossible to further affect theproportionality between capitalinvestments and governance rights,and to entrust the control of acompany with a minority.

Free shares

It is possible for SA, SAS and SCA toaward free shares to certainemployees and officers of thecompany and affiliated companies.An award of free shares is a rightgiven to an individual to receive,subject to specific conditions beingmet, a certain number of shares.The ability to issue shares withoutconsideration must be provided inthe articles of association and thedecision is to be taken by the boardof directors / management.Conditions of the issue (such asvesting period and holding period)are fixed by the general meeting ofthe shareholders.

Beneficiary shares

In addition to shares, Luxembourgcompany law allows the issue ofparticipation certificates, also-called founder shares (“titres ouparts bénéficiaires”) which do notform part of the share capital. Thearticles of association determinethe rights that are attached to suchbeneficiary shares. These rightscould conceivably be voting rightsand/or dividend rights or rights toparticipate in the liquidation or acombination thereof. It is possibleto issue beneficiary shares with orwithout the right to participate inprofits or with or without votingrights. These beneficiary shares canbe issued for a consideration incash or kind, but can also be issuedwithout consideration.

Bonds and Convertible bonds

The bond issuance period may beshort, medium or long. Bonds caneasily be transferred to a third partyand generate a fixed or variableinterest rate. The interest they bearis payable periodically or atmaturity, depending on thecoupon's terms and conditions.Bond issuance may includesubordination as well asconvertibility. All Luxembourgcompanies can publicly issue bonds.

PECs and CPECs

Hybrid instruments, such asPreferred Equity Certificate (PEC)and Convertible Preferred EquityCertificate (CPEC), are often usedin cross-border investmentstructures. They are designed to beregarded as debt at the level of aLuxembourg issuer from aLuxembourg tax perspective whilstin some cases as equity for foreigntax purposes (notably for the US).Because PECs and CPECs aretreated as debt for Luxembourg taxpurposes, interest expense may beimputed on PECs and CPECsresulting in Luxembourg taxdeductions, subject to recapture. Inaddition, interest paid on PECs and

CPECs as well as the payment of aredemption premium, is generallyexempt from Luxembourgwithholding tax.

Typical features of PECs and CPECsinclude a 30-year term; a fixedannual interest rate computedbased on the “arm’s-length”principle, convertibility (as regardsto CPECs) into shares of the issuerat a fixed ratio established uponthe issuance of the CPECs, thepossibility to be redeemed at fairmarket value under certainconditions, transferabilityrestrictions, deep subordination toother debt and no voting rights.

Profit participating loan or assetlinked loan

The main characteristic of profitparticipating loans or asset linkedloans is that the lender'sremuneration depends on thecompany’s profits or the incomederived from a specific asset. Theprofit-sharing feature may inprinciple not be an obstacle toqualifying the instrument as debt.Provided the instrument is properlydrafted, and the return is notaligned with the profit distributionsof the company, the payment ofthe variable interest is in principlenot subject to withholding tax andis fully deductible.

Profit participating bonds and PECshaving the same characteristics interms of remuneration can also beissued.

Capital increase and preferentialsubscription rights

To increase the share capital of aSàrl, an amendment of its articlesof association will be required. Suchamendment requires a majority ofat least 75% of the share capital inissue. Any new investors (not beingexisting shareholders) must also beapproved by existing shareholdersholding at least 75% (the majoritycan however be decreased to 50%)


of the issued share capital.

Where, in relation to an SA or anSCA, an increase of issued orauthorised share capital requiresthe articles to be amended, thisrequires a majority of 66.67% ofshareholder votes (present orrepresented at the meeting) with aquorum of shareholdersrepresenting at least 50% of theissued share capital. Quorum andthe conditions of majority are freelydetermined in the articles ofassociation of the SAS.

Increases of share capital by an SA,SAS or SCA for cash subscription(but not by way of a contribution inkind) will generally be subject tostatutory, preferential subscriptionrights. No such statutory,preferential subscription rights existin relation to an Sàrl althoughequivalent contractual rights maybe included in its articles. The SA,SAS and SCA statutory, preferentialsubscription rights may be waivedby the shareholders individually. Theshareholder's meeting may alsovote to reduce or cancel thesepreferential subscription rights,applying the same requirements asfor amendment to the articles,which also requires a detailedreport of the reasons for limitingthe preferential subscription rightsto be presented to the shareholdersmeeting by the Board.

Luxembourg companies may alsostate an authorised share capital intheir articles of associationauthorising the board or thechairman or the general partner todetermine the terms of furthershare issuance within certain limitsand to carry it out. Suchauthorisation may be valid for aperiod of a maximum of five years,and is renewable. In such case, theboard or the chairman or thegeneral partner may also beauthorised in the articles to removeor limit the preferential subscriptionrights of the shareholders.

Requirements regarding capitalincrease and preferentialsubscriptions in the case of a SCS orSCSp can be freely determined inthe partnership agreement.

Redemption of shares

Share buy-back

Whilst subscription by an SA, SAS orSCA for its own shares is notpermitted, it is permitted for thesevehicles (and for a Sàrl) to buy backtheir own shares which are theneither cancelled or are held intreasury (under certain conditions).For a Sàrl, the ability to buy-backthe shares must be set out in itsarticles of association, thecompany must have sufficientfunds to do so and transfers intotreasury requires shareholderapproval as set out above under"pre-emption rights", but isotherwise largely a matter ofcontract.

In relation to an SA, SAS or SCA, anadditional, generally applicablestatutory framework also requiresauthorisation to the Board (or thechairman or the general partner, asapplicable), by a generalshareholder(s) meeting approvingthe terms and conditions, themaximum number of shares, theperiod of validity for theauthorisation of up to five yearsand the maximum and minimumconsideration to be paid, and asummary in the annualmanagement report.

Shares bought back must be fullypaid up and the buy-back must nothave the effect of reducing thevehicle's net assets below the valueof its subscribed share capital plusundistributable reserves.

Buy-back of limited interests in thecase of a SCS or SCSp can be freelydetermined in the partnershipagreement.

The general civil lawprinciple of equaltreatment ofshareholders willrequire that anyshare buy-back needsto be proposedequally to eachshareholder in thesame situation.


It should be further noted that thegeneral civil law principle of equaltreatment of shareholders willrequire that any share buy-backneeds to be proposed equally toeach shareholder in the samesituation.

Reductions of capital

Reductions of capital may becarried out by way of a boardresolution or a shareholders'resolution (with the same quorumand majority requirements as forthe amendment of the articles). Ifthe reduction involves repayment toshareholders or waiver of anobligation to pay up shares, creditorprotection principles apply inrelation to SA, SAS and SCA whichallow any creditor whose claimspredate the publication in the RESA(Recueil Electronique des Sociétéset Associations) of theshareholders' capital reductionresolution, to apply to the court fora protective order within thirty daysfollowing such publication.

That application must be for anorder for the provision of securityfor the creditor's claim and thecourt may only reject suchapplication if it considers thecreditor already has adequateprotection or if such security isunnecessary in view of the net assetvalue of the company. No paymentmay be made by the company tothe shareholders following a capitalreduction within this thirty dayperiod, or until any objectingcreditor applying to the court hashad its claim settled or the courtdismisses the application.

Unlike in certain other jurisdictions,creditor protection enablesapplication by objecting creditors tothe court. It does not require thepositive application by thecompany itself for the court'sapproval of the proposed reduction.

No specific creditor protectionprovisions apply in relation toreductions of share capital of Sàrl,SCS or SCSp.

Distributions to investors

Legal reserve

After payment or provision forrelevant debt obligations (includingany intra-group debt financing), allLuxembourg companies (to theexception of the SCS and SCSp) areobliged to allocate to a non-distributable reserve an amountequal to 5% of the company's netprofit per annum. This obligationcontinues until the reserve hasaccrued to a figure equal to 10% ofthe company's share capital (sharepremium and capital surplus shallnot be taken into account for thepurpose of this threshold).

Dividend distribution

After payment or provision for debtliabilities and allocation to this non-distributable reserve, the companymay then declare and pay annualand interim dividends.

In relation to standard, unregulatedcompanies (not constituting aninvestment fund) annual dividendsare declared by the shareholders attheir annual general meetingapproving the company's annualaccounts, provided that thoseaccounts demonstrate that theproposed final, annual dividendwould not cause the company's netasset value to fall below the level itssubscribed share capital plusdistributable reserves. The amountof the final, annual dividend maynot exceed distributable profits,reserves (and carried forwardprofits) net of any current orcarried-forward losses andallocations required to the non-distributable reserve(s).

Interim dividends may also bedeclared by the board of directors/managers (or the chairman or thegeneral partner, as applicable),provided that the proposeddistribution does not exceed theprofits of the company in thecurrent year (plus net profitscarried-forward) net of any currentor carried-forward losses and anysums required to be allocated tonon-distributable reserve(s). Indeclaring any interim dividend, thedirectors/managers must prepare abalance sheet showing the netfunds available for distribution andthe decision to distribute must betaken within two months of thatbalance sheet. At the time theannual accounts are to beapproved, the statutory auditor (ifany) must confirm to the board orthe chairman or the generalpartner, as applicable, whether ornot these conditions were met.

Dividend payments attractLuxembourg withholding tax but itmay be reduced or exempt incertain circumstances.

Structuring the governance

The importance of shareholdersagreements

Purpose

Luxembourg company law affordsrelatively few rights to shareholderswith the result that a shareholdersor joint venture agreement can beused to confer additional rights andpowers on shareholders, inparticular particularly regarding thetransfer of shares (pre-emptionrights, drag-along rights and tag-along rights, ….), rights of veto andcorporate governance matters.


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Ensuring compliance

To ensure compliance with thecommercially agreed position inpractice, it is better to replicatecertain clauses from theshareholders or joint ventureagreement in the articles ofassociation. If the clause appearssolely in the shareholders or jointventure agreement, the remedy forany breach will generally be a claimfor damages with the relateduncertainties associated withlitigation risk including anydifficulties of evidential proof. Theavailability of a court order tocompel mandatory performance(rather than a claim for damagesfollowing non-compliance) willoften be uncertain.

In many circumstances, theshareholders will prefer (at least atthe outset) that all parties simplycomply with their agreed jointposition, rather than to seekfinancial compensation for breach,after the event. Thus, the mattersset out below will often be includedin the articles of association, breachof which results in immediateinvalidity. Those constitutionaldocuments can also be relied onagainst third parties by reason oftheir public filing and consequentregistration at the Luxembourgcompanies registry, in the case ofSàrl, SA, SAS and SCA. Ashareholders or joint ventureagreement, in contrast, being aprivate contract, cannot be reliedon against third parties.

However, as the articles ofassociation are publically availableon the Luxembourg companies'registry, a balance between thecommercial confidentiality on onehand and the reliance against thirdparties and constitutional effect onthe other hand, may need to beconsidered.

Duration

Shareholders or joint ventureagreement are subject to a generalprinciple of civil contract law thatno contract can be made for aninfinite duration. This does notnecessarily require that a fixednumber of years be set out in theagreement. As many shareholdersor joint venture agreements areconstituted for the purpose of aspecific project with a requiredperiod of time or for a setinvestment period, reference tosuch a period for determining theduration of a shareholders or jointventure agreement is anappropriate approach.

Duty of good faith

In relation to any Luxembourg lawgoverned contract, an overridingduty of good faith applies betweenthe parties not only in theirperformance of the contract butalso in pre-contractual matters andin any ultimate enforcement thatmay become necessary. Thisgenerally applicable duty has twospecific, additional areas ofapplication in the corporatecontext: abuse of majority andabuse of minority.

Abuse of majority may occur bothin actions taken by shareholdersand in actions taken by directors ifthose actions are:

taken contrary to the generalbest corporate interests of thecompany;are taken either with the soleand exclusive intention tofavor or prefer the majorityshareholders to the detrimentof the minority or to have, andto be intended to have, adamaging effect on theminority shareholders.

Abuse of minority refers to asituation where minorityshareholders refuse to takedecisions which are in the bestcorporate interests of the companyand includes both voting under thearticles and taking decisions withinthe contractual framework of theshareholders or joint ventureagreement. Such refusal must becharacterized by bad faith and betaken for exclusively self-referential,non-corporate reasons, contrary tothe company's best corporateinterests and causing damage tothe company out of proportion topositive effects sought by theminority.

Governance arrangements

Governance arrangements wouldtypically involve votingundertakings, veto rights in favourof a class of shareholder or class ofdirectors/managers and rights tonominate directors / managers.

Appointment of directors /managers

Private equity and venture capitalinvestors would usually have therights to appoint directors /managers. Provisions that reservethe right to a shareholder toappoint one or several directors /managers are in principle noteffective under Luxembourg law.However, in order to remedy suchineffectiveness, different classes ofshares may be created in thearticles of association in order tosecure that each shareholder orgroup of shareholders (representingeach a class of shares) may appointone or more directors/managers onthe board. Each class would beentitled to propose one or morecandidates for a directorship. Theshareholders would elect thedirectors/managers among thecandidates proposed by theshareholders of such class. Thisformal procedure is necessary inorder to circumvent the ruleaccording to which the power to


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-appoint directors/managers isexclusively vested in the generalmeeting of shareholders acting as aglobal corporate body.

Voting undertakings (which arerecognised by law) whereby allshareholders undertake to vote infavour of directors / managersnominated by a specific shareholdercan also be implemented.

Management clauses

The board / general partner is incharge of determining theguidelines for the company’smanagement and businessdevelopment. Contractualprovisions in a shareholders or jointventure agreement aiming atdelegating the decision taking to aCEO or an executive committeewould in principle be valid. Otherdown-stream delegations wouldonly be acceptable provided thatthe management may not bedeprived of any power to interferein the management and to act inthe interest of the company.

Veto rights – reserved matters

Board levelDifferent classes of directors/managers may be created, each orsome of them benefiting fromcertain veto rights on mattersfalling within the competence ofthe board and that are of particularinterests for the shareholder(s) that"appointed" them.

Thresholds and majorityrequirements applicable toresolutions to be taken by the boardcan also be structured in order toensure that no decision could betaken without the attendance orthe approval of the relevant class ofdirectors/managers.

Shareholders levelDifferent classes of shares may alsobe created. Each shareholder orcategory of shareholders (e.g.majority shareholder, sponsor,minority shareholder, management,…) will hold a class of sharesentitling it/them to specific votingor economic rights.

In relation to general meeting ofshareholders, the statutoryquorums and majority requirementsmay be increased so as to ensurethat no key decisions can be takenwithout the affirmative vote of therelevant category(ies) ofshareholder(s). Each class of sharesmay also have veto rights overcertain matters. They arrangementsare generally quite effectiveprovided they are included in thearticles of association of thecompany.

Veto rights held by private equity orventure capital investors usuallycover the following matters (eitherat the level of the investmentvehicle or of the subsidiaries):


Veto rights

Corporate affairsamendment to the constitutional documentsalteration of the financial year end or of the accounting policiesvariation in the authorised or issued share capitaldeclaration or distribution of dividendsapproval right of any transfer of shares, pre-emptive right, exercise of dragalong and tag along rightslisting on an international stock exchangeappointment and change of the auditorsappointment or removal from office of any directorliquidation, winding-up or dissolution

Material changessale, transfer, leasing, licensing or disposal of all or a substantial part of thecompany / subsidiary's business, undertaking or assets whether by a singletransaction or series of transactions, related or nottransfer of any shares in the capital of subsidiariesentry into a partnership or joint venture arrangement or merger or similarmechanismdemerger, division or split of the company or subsidiary

Commitmentsadoption of or any amendment to the operating budgetentry into any contract or arrangement (including mortgages or charges)which is unusual, onerous or otherwise outside the normal course of tradingmaking of any payment otherwise than on an arm's length basisentry into by any (new) borrowings facility, the variation of the terms of anyborrowing facilities or the issue or redemption of any loan capital prior to itsdue dateentry into any commitment or arrangement which is material to the businessof the company or subsidiarygranting of any guarantee (other than in relation to the supply of goods orservices in the normal course of trading) or the creation or issue of anydebenture, mortgage, charge, pledge or other security (other than liensarising in the course of trading)entry into any lease, contract, memorandum or other agreement for thelicence, lease, sale or purchase of land or real propertyestablishment of any pension, profit sharing, bonus or incentive schemeinitiation and the subsequent conduct of any litigation, arbitration ormediation proceedings


Voting rights

General principle

As a general rule, one share givesright to one vote. It is howeverpossible to issue shares withdifferent nominal values withrelated pro rata voting rights(please see above under thefinancing instruments section(preferred shares)).

Voting arrangements

Voting arrangements amongshareholders are valid and can beenforced to the extent that (i) theydo not infringe the law or thecorporate interest of the companyand (ii) shall not be construed asgranting the management of thecompany or of a subsidiary theright to give instructions to theshareholders.

Suspension of voting rights

If provided by the articles ofassociation, the management canbe authorized to suspend the votingrights of a “defaulting” shareholderunder the conditions andformalities specified in the articlesof association. Suspending thevoting rights of defaultingshareholders may impact quorumrequirements for holding a generalmeeting and approval requirementsfor ballot issues. Shareholderswhose voting rights have beensuspended still have the right toattend meetings.

Waiver of voting rights

A shareholder may agree to waivein full or in part its voting rights ona permanent or temporary basis.This option may use toaccommodate certain regulatoryobligations that a shareholder maybe subject to.

Minority shareholders rights

Majority shareholder(s) / private

equity or venture capital investor(s)do not owe a fiduciary duty to theminority shareholders. Luxembourglaw however provides for certainlimitations such as the abuse ofmajority and the general principleof good faith.

Minority action

Shareholders of an SA or an SCArepresenting at least ten percent ofthe share capital and/or of thevoting rights entitled to beexercised, have the rights to initiatean individual actio mandati (onbehalf of the company) againstmembers of the board of directorshaving defaulted in their duties.

Independent investigation

Minority shareholders of all types ofcompanies representing at least tenpercent of the share capital and/orof the voting rights entitled to beexercised, have the rights toaddress questions on the companyand affiliated entities’ affairs. In theabsence of a response by themanagement, an independentexpert may be appointed by aLuxembourg court to establish areport on the matters that were theobject of the questions.

Convening of general meetings

Shareholders of an SA or an SCAholding ten per cent of theregistered share capital mayrequest a shareholders’ meeting inwriting, indicating the purpose ofthe meeting. Shareholdersrepresenting ten per cent of theregistered share capital may alsorequest that a certain matter beput on the agenda of ashareholders’ meeting.

With respect to the S.à r.l., thethreshold to convene ashareholders' meeting is set at fiftyper cent of the registered sharecapital. Threshold for an SAS can befreely fixed in the articles ofassociation.

Adjournment of a generalmeeting of the shareholders

Shareholders of SA, SAS and SCArepresenting ten percent of theshare capital may request theadjournment a general meeting ofthe shareholders. The requestshould be addressed in session tothe board of director / generalpartner and for a maximum periodof four weeks.

Enhancing minority shareholderprotection

Improving the protection ofminority shareholders can beachieved by stipulating certainprovisions in a shareholders'agreement or in the company’sarticles of association (e.g.,information rights, right to have arepresentative appointed to themanagement board, provisions fora more stringent majority forcertain decisions, veto rights oncertain matters, approval clauses orshare transfer restrictions).

Profit allocation

In principle, the shareholders arefree to determine profit allocationas they consider commerciallyappropriate, subject only to agenerally applicable, longstopprohibition on clauses whichpurport to totally exclude certainshareholders from participation inprofits or exposure to risk of loss(clauses léonines).

Transfer of shares

Introduction

Shares in a SA, SAS or SCA are inprinciple freely transferable.However any transfer of sharesperformed in violation of thetransfer restrictions included in thearticles of association of a SA, SASor SCA shall be null and void.

Shares in a Sàrl are not freelytransferable to non-shareholders.


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The prior approval of at leastseventy-five percent of the sharecapital (this can be reduced to fiftypercent) is required. Stricterconsent thresholds may also becontractually agreed in the articlesof association. In the case of atransfer to a fellow shareholder, nosuch consent is required.

Transfer of shares in a SCS or SCSpcan be freely organized in thepartnership agreement.

Approval and pre-emptionclauses

In the Sàrl, the approval clause isautomatically provided for by lawand the shares in a Sàrl are nofreely transferable to non-shareholders.

Approval clauses and pre-emptionclauses in a SA, SAS or SCA are validprovided that the non-transferability period (which startsfrom the date of the transfer ofapproval request or the invitation toexercise pre-emptive rights) doesnot exceed twelve months. Aftersuch period, the parties will have tofind an arrangement to allow thedeparting party to leave thecompany.

Lock-up

Lock-up clauses in a SA, SAS or SCAshould be reasonably limited in timeand in the corporate interests of thecompany. No such requirementsexist for Sàrl.

Drag-along and tag-alongclauses

Drag-along and tag-along clausesare in principle valid underLuxembourg law (article 1855 of theLuxembourg civil code formallyrecognized the validity ofarrangements organizing thetransfer of shares that do not haveas sole purpose the control ofparticipation in profits and losses).

The statutory framework regardingthe transfer of shares applicable toSàrl (i.e. the prior approval of newshareholders by at least seventy-five (or fifty) percent of the sharecapital) however results in an areaof sensivity in relation to drag-alongand tag-along provisions. it is notpossible to pre-approve a possibletransfer blind as to the identity ofproposed future transferees. Unlesssupported by a proprietary securityinterest, the most that can be doneis to include a contractual provisionin the shareholders' agreement /voting agreement where all partiesagree to vote in favor of suchtransfer.

Good-leaver and bad-leaverprovisions

One of the most importantelements of a managementincentive program is the leaverscheme, which makes provisionsconcerning the compulsory transferof the manager’s shares if themanager ceases to be active for thecompany. Technically, this isstructured by call and/or putoptions. The validity of such clausesis expressly recognized by article1855 of the Luxembourg civil code.

Efficiency

If a share transfer restriction clauseis valid, it is however not necessarilyeffective in practice. Indeed, futureshareholders are not automaticallybound by an existing shareholdersor joint venture agreement andshareholders or joint ventureagreements are not enforceableagainst third parties (except in caseof fraud of the latter).

Therefore, when a party transfers itsshares in breach of the transferrestrictions, the transferee (whowas not aware of the transferrestrictions) becomes the legalowner of such shares, though thetransferor may be sued fordamages for breach of contract or,as the case may be, be required topay a contractual penalty.

Inserting the transfer restrictionsinto the articles of associationwould improve their enforceabilityagainst third parties - transfereeswill not be able to claim that theywere unaware of the transferrestrictions as the articles ofassociation are public. Anotheradvantage of entering the transferrestriction in the articles ofassociation is that the restrictionswill apply to all future shareholders,whether parties to the agreementor not to the shareholders or jointventure agreement.

Conclusion

It is important to ensure both theprivate equity or venture capitalinvestors and, as the case may be,management teams receive properadvice to ensure that:

the deal is structured in themost tax efficient mannerpossible and that thecommercial deal works for allparties; andthe deal is structured in amanner which is effectiveunder Luxembourg law andwhich works for both tax andlegal purposes.

If not, either party could end upmaking an expensive mistake,particularly if a falling out were tooccur between the managementteam and the sponsor at a laterpoint when, for example, theinvestors could (if not properlyadvised at the outset) findthemselves trapped, should theynot have taken into account therestrictions for the transfer ofshares to non-shareholders.


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Bertrand GeradinPartnerT +352 2712 2029M +352 691 751 [email protected]

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Daniel RichardsPartnerT +44 1534 514052M +44 7797 [email protected]

Laurent ThaillyPartnerT +352 2712 2032M +352 621 245 [email protected]

2-4 rue Eugène RuppertPO Box 2078L-1020 LuxembourgT +352 2712 2000F +352 2712 2001E [email protected]

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