Sole Member Company

A recent decision of the Italian Court of Cassation has clarified the position of a sole member of a company which enters into a settlement with its creditors.

The above-mentioned decision relates to an increasingly relevant area of the law; that of sole member companies. In this context, it would seem appropriate, before looking at the above decision, to first summarise the Italian law on the subject.

The XII EC Directive no 89/667 (1) on sole member companies was implemented in Italy by the Legislative Decree of 3rd March 1993, no. 88 ("the Decree"). The Italian legislator elected to limit the Decree to permitting the formation of limited liability companies without shares with sole members, (i.e. societÓ a responsabilitÓ limitata - "s.r.l.") and did not take advantage of the provisions of the Directive permitting the incorporation of sole member limited companies with shares (societÓ per azioni - "s.p.a."). It should be noted, however, that this restriction only applies at the moment of incorporation (see further below).

The Decree amended a number of articles of the Italian civil code relating to limited liability companies (s.r.l.), with the following being the most significant changes:
- Provision has now been made for an s.r.l. to be incorporated by way of a unilateral deed; in this case the contributions must be fully paid up on incorporation.
- Where on the other hand, the company was incorporated with more than one member, but there is a subsequent reduction to a sole member, then any outstanding contributions must be paid up within three months.
- A number of advertising requirements are imposed on a sole member company (applicable both to where this is so by incorporation or by reduction in number of members): the fact that the company has a sole member must be indicated in all correspondence and documents of the company; and in addition article 2475 bis now imposes an obligation to file a declaration containing details of the sole member (including where there is a change of identity) with the Companies Registry, and another declaration if the company ceases to be a sole member company.
- Contracts entered into between the sole member and the company must be entered in the minute book of the directors' meetings or recorded in a written instrument, and the debts of a sole member who is not subject to unlimited liability will not have priority over the other creditors of the company. - Obviously the most important changes relate to the question of limited liability. The new provision introduced by the Decree (article 2497) states that in the case of an s.r.l. which becomes insolvent, where any of the company's debts were incurred at a time when there was a sole member, then that member will have unlimited liability for those debts only in the following circumstances:
i) where that sole member is a legal person or, if an individual, is already the sole member of another company;
ii) where the contributions have not been paid up in accordance with the provisions of art. 2476 paragraphs 2 and 3 (see above);
iii) where the advertising requirements referred to in article 2475 bis have not been complied with.

It should be noted that the Decree did not make provision for the exercise of any kind of control, in the interests of third parties, over sole member companies. This is significant in the case of companies with a corporate capital of less than 200 million Lire for whom there is no obligation to appoint a board of internal auditors, unless the deed of incorporation makes an express requirement therefor or the company exceeds certain ratios (assets, employees, income) predetermined by the law.

As stated above, the concept of the sole member company already existed in Italy prior to the 1993 Decree, in that the number of members could be reduced post incorporation. In relation to an s.p.a., the pre-existing article 2362 of the civil code relating to the liability of sole members continues to apply. This article provides that any sole member will, in the event of insolvency, have unlimited liability for those of the company's debts as were incurred in the period when he was sole member (i.e. without the restrictions applicable to s.r.l.s). The effect of the Decree is therefore to give an individual the right to carry on a business activity (as an s.r.l.) and at the same time, subject to the exceptions in article 2497, have the benefit of limited liability.

As mentioned at the beginning of this article, the extent of a sole member's liability in the event of the insolvency of the company has recently been examined in a significant decision given by the Court of Cassation. The case concerned an action brought against a company for payment in full of debts for unpaid goods. Before the case was heard, the company initiated attempts to reach settlement with all its creditors by way of the "concordato preventivo" procedure, which permits a business (the procedure is open to most types of business entity and not just companies) in certain circumstances, to come to an arrangement with creditors in order to avoid an insolvent liquidation, one of the conditions being that the company must be able to settle at least 40% of its unsecured debts. At the time when the company had incurred the debts which were the subject of the legal proceedings, the entire corporate capital had been held by one party, an s.p.a.. One of the questions to be considered by the Court of Cassation was the extent of the liability of the sole member in the light of the "concordato preventivo" procedure, and in particular in the light of article 184, paragraph 2, of the Bankruptcy Law, which states that, unless there is agreement to the contrary, the settlement with creditors will also have effect in respect of any member ("socio") who has unlimited liability (i.e. meaning that their liability will in effect be limited to the percentage of the total debts agreed with creditors).

The Court of Cassation reversed the findings of the two lower courts and held that in applying the "protection" of art. 184 a distinction had to be made in relation to the way in which the unlimited liability had arisen. Where this arose by operation of law by reason of a contingent situation having arisen, as was the case in relation to the liability of a sole member (e.g. the sole shareholder of an s.p.a. or the sole quotaholder of an s.r.l.), then the "protection" given by article 184 would not apply. Where on the other hand it arose by virtue of the legal form of business entity which had initially been chosen, (for example in the case of the insolvency of a sole trader or an unlimited partnership), then the section was applicable (and therefore the members of a partnership would have the benefit of the protection.

The decision is significant in that it effectively equates a sole shareholder to a kind of "guarantor" of those of the company's debts which were incurred whilst he held the entire capital of the company, even though this role arises by operation of law.

Practical Pointers:
- In Italy a company may now be incorporated with a sole member where it is an "s.r.l." but not where it is an "s.p.a.", (as previously, both types of company may reduce the number of members to one once they have been incorporated).
- When the sole member of an s.r.l. is a legal person, it will have unlimited liability (the sole member of an s.p.a. will always have unlimited liability).
- Where unlimited liability arises (whether in relation to an s.r.l. or an s.p.a.), then in the event of insolvency of the company, the sole member will have joint and unlimited liability (in effect as a kind of "guarantor") for all those debts which were incurred during the period in which it was sole member.