Raising acquisition equity through a Cypriot holding company

From a funding strategy perspective, going public enables a company to enlarge and diversify its equity base. By tapping into a wide pool of potential investors and thus generating growth and working capital, an initial public offering (IPO) on a securities exchange may enable cheaper access to capital compared to the over-the-counter market. Getting there is undoubtedly a demanding process, as an IPO is associated with significant start-up – and ongoing – legal, accounting and underwriting costs. Increased thresholds of financial and business reporting and disclosures would need to be met by the prospective public company as well, and one cannot sign off the risk that the required funding may not be raised.

For emerging companies evidencing potential profit or cash flow improvements, a takeover may well be an appealing liquidity alternative strategy. Where the primary acquisition of the target company is structured through the secondary acquisition of the target’s Cypriot holding company, the buyer will almost always explore purchase avenues through the holding company itself.

The capital clause in the memorandum of a Cypriot private company sets out the amount of the authorised capital and, further, how this authorised capital is divided and represented in shares of a fixed amount.

The authorised capital connotes the amount of capital that a company is authorised to issue. The company may in general meeting, if so (and how so) authorised by its articles of association, increase its authorised capital by such amount as may be resolved by its shareholders. The subset of the authorised capital that has been issued to the shareholders of the company forms the issued share capital.

Allotment of shares

An allotment of shares presupposes that the Cypriot holding company has authorised yet-unissued share capital. Where the authorised share capital has been issued in its entirety, a shareholders’ resolution of the type prescribed in the articles of association of the company, resolving its increase, will be necessary. Pursuant to section 62 of the Companies Law, the return of the said special resolution would need to be filed with the Registrar of Companies within 15 days from the date the resolution is passed. The total amount of the increased capital multiplied by 0.6% or the sum of €20 (US$27), whichever amount proves higher, represents the sum that will be payable to the Registrar of Companies by way of capital duty.

Once the increase resolution is passed and the new shares created, their subsequent allotment to the willing buyer-shareholder vests with the board of directors of the holding company. Save for limited exceptions provided by statute, shares may not be allotted for less than their nominal value, as the same is connoted in the memorandum. With no maximum value ceiling set by statute, the board of directors of the holding company enjoys a near absolute discretion in allotting the shares at any amount at a premium, i.e. in excess of their nominal value. This excess amount is reflected as a balance sheet entry and placed in the holding company’s share premium account.

Pursuant to section 51 of the Companies Law, the return of allotments would need to be filed with the Registrar of Companies within one month from the date the relevant resolution is passed. Late filings are permitted with the leave of the court. It should be noted that capital duty does not apply to amounts paid as premium.

It should be noted that section 51 is also explanatory as to how shares can be allotted for consideration other than cash. This route is less popular in acquisitions yet highly relevant in debt restructuring, as an allotment of shares may be used as consideration to pay off any outstanding debts and keep the balance sheet of the company presentable.

Loan agreement

It is not uncommon for the buyer to channel the purchase amount to the target holding company through a loan agreement. Taking into account that the aim of the buyer/lender is the acquisition of the target through the holding company/borrower, the repayment provisions of the loan agreement in this context are crafted so as to cater for the settlement of the loan amount by shares of the target holding company, rather than cash.

Pledge of shares

A pledge describes a contractual relationship where the physical possession of any asset capable of actual, or constructive, delivery is delivered by one person (the pledgor) to another (the pledgee) as security for payment of a debt or performance of a promise. In the context of a pledge agreement concerning the shares of the holding company, such asset comprises the original shares certificate that evidences title to such shares of the holding company as therein expressly mentioned.

The shares pledge agreement comprises a much trusted medium for creditors in securing a loan. On execution of the shares pledge agreement, the pledgor hands over to the pledgee the shares certificate of the shares of the holding company that are used as security.

The ownership of the pledged shares remains with the pledgor, as it is only the possession of the shares certificate that is delivered to the pledgee.

The pledgee – or any other person nominated by the pledgee – shall become the registered owner of the pledged shares once, and if, the pledgor is in default, or in continuous default, of the terms stipulated in the shares pledge agreement.

The tax position will ultimately be among the decisive factors as to how acquisition equity will be generated out, or injected into, the Cyprus holding company. Implementation and professional advice fees apart, costs for capital and stamp duty, if applicable, should also be levied and quantified from the outset. Depending on how the acquisition structure is layered, reference must always be made to the prohibitions and exceptions afforded in section 53 of the Companies Law concerning the financial assistance by a company for purchase of, or subscription for, its own or its holding company’s shares.

Nick Tsilimidos is an associate at L Papaphilippou & Co in Cyprus