The UK capital maintenance rules for the protection of the creditors.docx
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The UK capital maintenance rules for the protection of the creditors.docx
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TheUKcapitalmaintenancerulesfortheprotectionofthecreditors
TheUKcapitalmaintenanceruleshavehistoricallybeenjustifiedasaformofcreditorprotection.Evaluatetheeffectivenessoftheserulesinachievingcreditorprotectionanddiscuss,byreferencetootherjurisdictionswhereappropriate,whatalternativeapproachestothepotentialconflictbetweencreditorsandshareholdersmightbeviable.
TheUKcapitalmaintenancerulesfortheprotectionofthecreditors
1.Introduction:
Thedefinitionofthecapitalmaintenanceshouldbedividedintotwoparts.IntheOxforddictionary,theword‘maintain’isdefinedasthemeaningofkeepinguporholdingtheissue.Andfurthermore,theword“capital”meansthenetassetsofthecompany.Accordingtothisdefinition,thecapitalmaintenancerequiresthattheshareholdersofthecompanyshouldkeepthevalueofthenetassetswithintheundertaking.ThisprinciplecanbetracedtothecaseofFlitcroft,thejudgeofthecasehadclearlypointedoutthatthecreditorneedstheprotectionfortheextrariskfromthemechanismoflimitedliabilityofshareholders.
A.Theconceptofassetdiversion
Whenshareholderscaninterveneinoperationofthecompany,theyobtainthechancetoshiftthepotentialriskoftheprojectfromthemselvestothecreditors.Thereasonwhyassetdiversionalwayshappenedisthatshareholdersofthecompanywithdeptareincentivetoreducetheriskoftheircapitalthoughvariousmethods.Forinstance,salariesanddividendalwayswereregardedasatoolbyshareholdersofthecompanytobeusedfortheassetdiversion.
Allthemethodswhichwasusedtocontributetoassetdiversionwouldhelpthemtoreducetheequitycushion;however,itisbasedonthedependenceofcreditorswhiletheyprovidecapitaltothetargetcompany.
Thentheshareholdersofthecompanyattempttoclaimdilutionbyissuinganotherdebtwiththeestablishmentofthesameorhigherpriority;therefore,therightoftheoriginalcreditorwasweakenedbythenewdebtifthecompanyfacetothesituationofinsolvency.Accordingtoit,theactionwouldimprovetheleveloftheleverageanditcreatesprofitsatthecostofinterestofthecreditors.Finally,shareholdersmightobtainthepresentvalueoftheabandoningprojectwhichcomesfromthecreditors.
Inconclusion,theconceptofassetdiversionexplainshowshareholderstransferwealthfromdamagingtheprofitsofthecreditorsthroughthedifferentways.Thisleadtodemandprotectionforthecreditorstodecreasethefactorsmitigatingopportunisticbehavioroftheshareholders.
B.Thefunctionoflegalmechanismforprotectingcreditors
Withthedevelopmentoftheconceptofassetdiversion,itisobviousthattheinterestsfromthedifferentpartiesinonecompanywouldleadtotheconflicts,especiallyfortheinterestrelationshipbetweentheshareholdersandthecreditors.Itcouldbetheprimaryproblemintheoperationofthecompany,whileotherconflictsarealsoexistinginthemarket.Accordingtothis,theregulationsforthemarketmainlyaimedatthesolvingtheproblemsbetweenthecreditorsandtheshareholderstoprotecttheinterestofbothparties.Consequently,theprotectionforthecreditorshasbeentakenasasignificantissueintheregulations.Inotherwords,therulescomparativelysupporttherightofcreditorswhentheconflictswerecausedbythepartiesofshareholdersandcreditors.
Theshareholdersofthecompanycanparticipateinmanagement,whichwouldbeassumedasthedirectors.Itmeansthattheinvestorsareresponsibleforthemselvestoprofitfromtheoperationofthecapitalwhichpartlycamefromthecreditors.Indetail,theycouldintervenetheinvestmentplan;however,itmightbethenegativeaspectsforthecreditors.Forinstance,theriskyprogramcouldcausetheshiftingofriskfrominvestorstocreditorsandtheprojectmightbegaveupwhenitonlybenefitstothecreditors.Inaddition,theyalsomightbeincrisisofhigherpriorityofdebtissuedbythemanagersofthecompany.Asaconsequence,sincethosecreditorswhodonothavetherighttoengagethemanagementofthecompany,provisionsshouldprovideansafetyenvironmentforthecreditorsinthemarket.
Thestrengthofthecreditorsprotectionwillinfluencethelevelofriskbornetheytake.Theprovisionsaretryingtoprovideaminimumfinancialconditiontomeettheneedofthepartiesinthemarket.Inotherwords,thecreditorsareaffectedbythefinancialcondition.Oncethelevelofminimumfinancialconditionshasbeendecreased,thecreditorsmightrenewedlyevaluatetheriskoftheloan.However,theycannotincreasethevalueofthespecificloaninthetransactionsothattheirrightshouldbeguaranteedbytheregulations.
C.Thepurposeofstudyingthecreditorprotection
TheregulationsongoverningcapitalmarkethavebeendiscussedbothinEuropeandUKinordertoregulatetheconflictsbetweenbothpartiesincludingshareholdersandcreditors.TheartofthiscontentintheUKregulationappealstovarietiesconstrainingthebehavioroftheshareholderssothattheefficiencyoflegalcapitalprovisionsshouldbeaquestionableissue.
Inthisarticle,thewholetextwouldbedividedintofourparts.Firstly,thebackgroundandbasicinformationwillbeshownatthebeginning.Secondly,thetwolegalsystemconcerningcreditorprotectioninthecapitalmarketinbothUKandEuropewouldbediscussed.Thirdly,comparedwithtwolegalmechanismsonthisissueandtrytoanalyzetheeffectivenessoftheUKlegalprotectionforthecreditors.Andinthefinalpart,theevaluationandsuggestionwouldbeprovidedinthearticle.
2.TheUKcapitalmarketprotectionforcreditors
A.Thelegalprotectionforthecreditors
Asprevioussaid,theCompanyLawoftheUKattemptedtoprotecttherightofcreditorsfromtheinfringementofshareholdersofthecompanies.Forthisreason,theclaimsofthecreditorsareembeddedintheprovisions.Thecorecontentoflegalmechanismconcerningprotectionforcreditorsincapitalmarketisthattheconceptofequitycushionwascreatedtorefraincreditorsfromtheinsolvencyofthecompanyandatthesametime,itpreventrestvalueofthecompanywhichshouldnotbelongtotheshareholdersflowtothem.
However,therearenonecessaryconflictsbetweentheshareholdersandthecreditors.Whenacompanyisinthedilemmaofinsolvency,profitsofthecreditorscouldnotseparatefromtheprofitsoftheshareholders.Ingeneralcircumstances,thepointisadvancedtotheshareholders,whichisalmostequaltothepositivepointtothecreditors.Nevertheless,whenthecompanybecomeabankrupt,theinterestofcreditorsshouldbetakenintotheconsiderationofdirectorsintheboard.
Forthepotentialdangeroftheclaimdilutionhappenedduringtheinsolvency,itencouragethecreditorstousethenegativepledgeclausethattheyhavemadeinthecontracttoguaranteetheirrightduringtheinsolvencyofacompany.Theauthorityrecentlyregardstheissueofpriorityduringinsolvencyasaseriousproblem.Additionally,somedetailandsuggestionconcerningonthisissuehavebeenraised,butinpractice,therewaslessinterestingofthisarea.
InUKcapitalregulations,thelawgivestheprotectionfortheintegrityofthesystemoflimitedliabilityofshareholderswithoutnumerousexemptions.Insomepointsofviews,theshareholderstakelimitedliabilitysothatpartialriskoftheinvestmentwouldbeconvertedintotheburdenofcreditors.Inaddition,thereisararecasewhichcouldberegardedasanexceptionunderthecontroloftheUKlegalmechanism.
B.Therecentreformintheprotectionofthecreditors
Table1:
Source:
MSiemsandSDeakin'Comparativelawandfinance:
Past,present,andfutureresearch'166JournalofInstitutionalandTheoreticalEconomicsJITE1120-140
UKisalwaysconsideredasprovidingmaximalprotectiontothecreditorsamongtheothercountries(asitshowsinTable1).SincetheCompaniesAct1985hadbeentakenintopractice,theauthorityfoundsomeimproprietiesintheimplementationoftheAct.Indetails,theprovisionsweregenerallyconsideredasundulycomplex.AndwhethertheCompaniesAct1985wassuitabletothecurrenteconomyofthecountrywasissuedbythepublic.
Acommonideasuggestedthatthesharecapitalregulationsshouldprovidethecorporatecreditorsfromrelativelymightyshareholderswhoonlyhavelimitedliabilityduringtheoperationofthecompany.Thisopinionwasservedasanexplanationforlarge-scalecompaniesaswellasprovisionsofinsolvency.Undertheenvironmentofnationaleconomy,theeconomicanalysisprovidesthatdifferentquestions,likethemethodtoprotectcreditorsorthecertaintypecreditorswhoareneededthelegalprotection,shouldbesolvedinthelegalmechanism.SuchdebtshadbeenincreasinglyraisedamongtheUKcompanylaw;furthermore,theacademicdiscussionbecomesenthusiasticinthisarea.Afterthat,thedocumentcalledStrategicFrameworkwhichisconductedbytheCompanyLawReviewSteeringGrouppointedoutthattheproblemofeffectivenessandcompetitivenesswouldshowinthereformoftheUKCompanyLaw.
Underthisidea,thenthenewCompaniesAct2006replacedtheCompaniesAct1985.Thereisnotonlytwodocumentsruledthecapitalmarket.AftertheCompaniesAct1985hadbeenpublicized,thereareaseriesofdocumentwasannouncedtothepublic.Forexample,thereisanumberofWhitePaperandreporttoregulatecapitalmaintenance.
TheconceptofcreditorprotectionwasintroducedbytheSecondDirective;however,itdoesnotworksuccessfullyforprotectingtheinterestofacreditorinpractice.Tosomedegree,thefunctionofthisSecondDirectivee
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