24 Nov 2013

COURT JUDGMENT REGARDING INVESTMENT IN A UAE LIMITED LIABILITY COMPANY

Authored by: Mustafa Abu Idris

COURT JUDGMENT REGARDING INVESTMENT IN A UAE LIMITED LIABILITY COMPANY

When investing in a UAE limited liability company, where the intention of the investor is to become a shareholder, it is important to be aware of relevant provisions of the UAE Commercial Companies Law and to comply with appropriate procedures. The parties should discuss and document their respective rights and obligations in respect of the investment at the time the transaction is made, or risk the possibility of, unfulfilled expectations and legal disputes would be likely to arise in the future.
 
 
In brief:
 
This article relates to a recent case whereby:

  • The claimant took legal action to claim a sum of money invested by him in order to become a shareholder in a limited liability company. The claim gave rise to a variety of counterclaims and appeals before the courts.
  • The Dubai Court of Appeal upheld the judgment of the Court of First Instance in favour of the claimant.
  • The Court of Cassation held that the Court of Appeal's judgment was reasonable and not contrary to applicable law.

The claimant (X) paid a significant sum of money to individuals (Y) and (Z) with the intention of becoming a shareholder in an existing limited liability company owned by (Y) and (Z). (X) was initially appointed as manager and granted a wide power of attorney to manage the company. However, (X) was subsequently removed from such post and his power of attorney was cancelled.
 
(X) determined that (Y) and (Z) had not taken any step to make him a shareholder of the company, nor had they made any other arrangement to grant him rights to any revenue or profit of the company. (X) thus filed a lawsuit with the Court of First Instance against (Y) and (Z) requiring that the investment be refunded.
 
The defendants (Y and Z) filed a counterclaim, requesting that the Court of First Instance appoint an expert to quantify certain damages which they alleged had been sustained by them, and they also requested that the claimant's claim be dismissed due to lack of capacity in view of the absence of a properly registered shareholding interest of (X).
 
The Court of First Instance appointed an expert who submitted a report confirming that payment had been made by the claimant (X) to the defendants (Y and Z) in the amount claimed by the claimant. The report also stated that (X) should be considered a shareholder, as (Y) and (Z) had been dealing with him on such basis. Finally, the court appointed expert proposed that (X) should have no liability in respect of the damages claims of the defendants.
 
The Court of First Instance held that the defendants must pay the claimant the total amount of the investment paid to the defendants, together with interest. The counterclaim raised by the defendants was dismissed.
 
The defendants appealed the judgment to the Dubai Court of Appeal, which referred the matter to be reconsidered by the expert who had been appointed by the Court of First Instance. The expert reached the same conclusion. The appeal was dismissed.
 
The appellants then challenged the judgment of the Court of First Instance by way of a petition to the Dubai Court of Cassation, which generally only considers appeals on matters of law. The appellants claimed that the Court of Appeal judgment, considering the evidence and applicable law, misapplied the law.
 
The Court of Cassation reviewed relevant articles of the UAE Commercial Companies Law, notably articles 222, 225 and 230 thereof. The Court of Cassation stated that the company's memorandum of association should specify the shares of the partners (shareholders) in the company. It was further stated that the manager of the company must apply for registration of the company in the commercial register and such application should be accompanied by documents specifying the distribution of shares among the partners. The value of the shares should be fully paid and deposited in a bank operating in the UAE and the company may not perform any activity until registration formalities are complied with. If a partner of the company purports to transfer his share to another partner or to a third party in whole or in part, then such transfer would not be valid, vis-a-vis the company or any third party, except to the extent that it is registered in the company's share register and in the registry of commercial companies. After a company is properly established, no third party may join as a partner in such company except to the extent that the provisions of article 230 are complied with. No person can be deemed to be a de facto partner in a company.
 
The Court of Cassation adopted the view of the Court of Appeal in terms of denying the non-capacity defence raised by the appellants (Y and Z). The Court of Cassation judgment held that capacity did exist, as an agreement had been made between the appellants (Y and Z) and the respondent (X) whereby (X) made an investment of cash in consideration for a promise that he would become a partner in the company. It had been proved that (X) paid the money and (Y and Z) indeed admitted that such amount was paid by (X) to join the company as a partner and that (X) was appointed as manager of the company. The decision of the lower courts that the investment amount should be repaid to (X) was upheld.
 
The Court of Cassation also found against the argument of the appellants (Y and Z) that the respondent should be deemed to be an illegal, hidden partner. The appellants had argued such position because the company is a limited liability company and as such any change to, or addition of, a partner shall not be valid, except to the extent that it is registered in the company's share register and in the registry of commercial companies.
 
The Court of Cassation held that the Court of Appeal's judgment had been reasonable and not contrary to applicable law.
 
This case paved the way for a simple yet effective measure to protect all potential shareholders. Any potential shareholders should ensure that his capital contribution is recorded with the company’s share legislation as a shareholding contribution. This ensures that his standing as a shareholder is officially recorded and cannot be denied.

This article, including any advice, commentary or recommendation herein, is provided on a complimentary basis without consideration of any specific objectives, circumstances or facts. It reflects the views of the writer which may, in some cases, differ from those of the firm, especially in the develop jurisdiction of the UAE.