Abstract
Dividend distribution is an inherent right of shareholders in commercial companies. The Companies Law, 1999 (hereinafter: “The Companies Law”) establishes two cumulative tests for the execution of such a distribution: Two tests which combine the “Profit Test” – an apparently simple test which is ex post – with a more complex test which is ex ante – the “Solvency Test”.
In the case of Egged, which ended several weeks ago, a complex issue was discussed with respect to the considerations that must be taken into account while making a decision according to the Solvency Test – should expected uncertain creditors also be taken into account, and what is their significance?
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Dividend distribution in the mirror of the Companies Law
Distribution of profits of a company to its owners (whether through dividend distribution, distribution of bonus shares or repurchase of shares) is a fundamental right of shareholders which is of course subject to the fact that the Company decides about such distribution. The decision about such distribution is one of the most significant authorities of the Company’s Board of Directors (pursuant to Section 306 to the Companies Law), which excluding restrictions, is the organ which has the authority to carry out such distribution.
It is important to mention that the distribution of profits to shareholders, including through dividend distribution, transfers assets from the Company to its owners and can raise issues – not to mention certain “concerns” – among the Company’s creditors.
Section 302 to the Companies Law establishes two tests which the Company must pass in order to distribute dividends to its owners: The Profit Text is a test which is ex post – a relatively simple test of calculations which in certain cases can be avoided by receiving the approval of the Court (see below). The second test is the Solvency Test which is ex ante – a relatively complex test according to which the Company’s Board of Directors must determine that the Company will be able to pay off its existing and expected liabilities in the future.
Pursuant to Section 303 to the Companies Law, the Court may allow a company to carry out a distribution even if it does not pass the Profit Test, provided that it passes the Solvency Test.
The status of creditors while making a decision about a distribution
As mentioned above, during the execution of a distribution, the Company reduces its value and distributes some of its assets to its owners. The action of course embodies a legitimate and even trivial expectation of the Company’s owners to realize their investment in the Company’s shares, but the Company’s creditors are in a situation where they observe the Company while it dilutes some of its assets and the amount of their debt remains unchanged.
For this reason exactly, the Companies Law grants the creditors with an option to demand from the Company to cancel the distribution, postpone it or provide conditions[1] therefor – in order to maintain the amount of their debt.
In the case of “Egged” which received a court ruling several weeks ago[2], an issue was discussed about various types of “Creditors” which the Court has to take into consideration, and whether all the types of creditors and the amount of their debt have to be given the similar significance when the Court is about to decide in the issue.
In short, we will mention that a group of Egged’s retirees requested to delay a significant dividend distribution of NIS 350 million further to which it inter alia claimed that that group conducts a legal proceeding against Egged under a class action, and if it wins the aforementioned proceeding, the significance as far as Egged is concerned can be a significant payment of funds. Therefore, those retirees requested the Court to take inter alia into consideration their status as well as the potential amount of their debt (which is of course uncertain) while being about to rule in the second test for the dividend distribution which is the Solvency Test.
Certain debts compared to controversial debts
A company may have varied debts – both merely financial debts and debts that basically involve legal proceedings from which a financial debt may arise in the future. In the case of Egged, the Court analyzed the legal status and was assisted by the definitions of “creditor” and of “debt” from the definitions that were provided in the Law of Insolvency and Economic Rehabilitation, 2018 (hereinafter: “The Law of Insolvency”). As a result, the definition that was given to the aforementioned terms is a broad definition, according to which a debt is “a debt which is certain or conditioned, limited or unlimited, whether the date of its payment is due or not”.
In other words, claims that were raised by creditors against the Company as part of a legal proceeding regarding which no decision has been made yet (see above – claims of a retiree of Egged) have to be apparently considered under the aforementioned definition.
However, the Court continued and determined that when it came to take the pleas of diverse creditors into consideration, no identical significance was given to each and every indebtedness, and the Court must differently take expectations of certain debts against conditioned debts into consideration and debts with respect to which it is absolutely not sure whether their payment date in the future is due must be considered differently. When the analysis was completed, the Court determined that there is no reasonable concern that the Company will not be able to pay its debts even if it distributes the dividend that was required, and therefore the claim was postponed[3].
Conclusion
The execution of a distribution to shareholders in the Company is an action which in most cases is done in a trivial manner and it does not raise complex issues. Nevertheless, the Company’s Board of Directors must take into consideration and discuss whether the distribution is carried out while the Company passes two tests.
One of the two aforementioned tests is the “Solvency Test” – a complex test which is ex ante under which the Company’s Board of Directors must take into consideration the Company’s ability to pay off future debts including those that are uncertain and consider expectations of the formation of every debt. In our opinion, it can produce exaggerated conservativeness when the Company is about to carry out a distribution, but this is a subject for a future article.
For further information, please contact:
| Hanan Efraim, Adv. | Ofer Inbar, Adv. |
| Office: +972-3-6916600 | Office: + 972-3691-6600 |
| E-Mail: hanan@ekw.co.il | ofer@ekw.co.il |
[1] See Section 303 (B) and (D) to the Companies Law.
[2] Civil Case 15304-06-23 Egged Transportation Company Ltd. versus The Registrar of Companies & Co.
[3] It is allowed to state that additional considerations were raised under the discussion in the case which we will not relate to in this article of ours due to lack of space.