Treaty Establishing the European Union - Assignment Example

I Introduction: The focal point of our analysis is the provision concerning the right to establishment under the Treaty Establishing the European Union (“TEC”), specifically Article 58 thereof, and Article 48 of the EC Treaty, which deals the right to establishment of a company within the Community which is incorporated in a Member State.1 We specifically direct our discussion to the European Court of Justice (“ECJ”) which has heard several cases that have progressively limited the ability of individual countries to restrict the establishment of companies, agencies, branches, and subsidiaries in other European countries. At the outset we shall briefly outline the important treaty provisions that impact the right of establishment of a company under the Community law. Article 43 of the EC Treaty allows individuals to manage businesses under the same conditions as are laid down by the law of the Member State of establishment for its own nationals. Article 48 of the EC Treaty provides that companies formed in accordance with the law of a Member State and having a registered office within the Community are to be treated in the same way as natural persons who are nationals of that Member State. However, the European countries have overtly inclined towards a trend of passing local laws that make it difficult to establish a branch or subsidiary company in a location outside the country of origin. And on September 30, 2003, the ECJ delivered its latest blow to countries that have put in place prohibitive regulations regarding incorporation with its decision in the case Inspire Art.2 This judgment is consistent with the ECJ’s jurisprudence on the matter of corporate headquarters and subsidiaries, beginning with Daily Mail,3 and developed by Centros.4 Daily Mail pertained to the commonly called “outbound” case, while Centros dealt with so-called “inbound” cases. These two cases were decided in the context of “freedom of establishment” from Article 43, paragraph 1, of TEC, which, read together with Articles 46 and 48 TEC, grants great leeway to European corporations that want to move about within the Community.5 As a prelude to our appraisal of the evolution of ECJ jurisprudence on this point, we may briefly survey the European perspective on the regulatory flexibility as regards incorporation and movement of establishment. [II]: European Approach: Freedom of Movement and Right to Establishment The European Community adopted an approach which generally rejected the well-known American model that is based on free incorporation, legislative competition, and a predominance of enabling rules.6 It allowed a “race of laxity”, resulting in “abuse and speculative excesses”;7 the objective of community legislation has been to deter companies from relocating in Member States with least regulations.8 Therefore, the original Treaty of the European Economic Community authorized and required legislation9 coordinating to the necessary extent the safeguards, which, for the protection of the interests of members and others, are required by Member States of companies and firms ... with a view to making such safeguards equivalent throughout the Community. At the same time, the Member States were invited to enter into negotiations with each other – that is, to form a convention with a view to securing for the benefit of their nationals: ... the mutual recognition of companies or firms, ... the retention of legal personality in the event of transfer of their seat from one country to another, and the possibility of mergers between companies or firms governed by the laws of different countries.10 These provisions made it very clear that the right of establishment did not include the freedom to move a company from one Member State to another by merely reincorporating within the desired country.11 There is sufficient authority to show that show that the institutions of the EC have fully respected this concept for a long time, however, recently it has marked a decline. The subsequent parts of this paper shall explain this decline. [III]: Recognition of Companies: The real seat theory and its decline A. The Daily Mail Case In Daily Mail,12 a company challenged the statutory U.K. requirement that companies first obtain permission from the U.K. treasury before transferring their headquarters to another country. In this case, the company, Daily Mail, believed this requirement presented an obstacle to its European right to freedom of establishment. The U.K. statutory provision also enabled the treasury to ask the company to liquidate some of its assets, thus making the company liable to pay capital gains tax. Interestingly, companies that resided abroad did not have this same tax liability under the U.K. law. In its judgment, the ECJ pointed out that Article 43 of the Treaty provides for the institution of “agencies, branches or subsidiaries by nationals of any Member State,” but the ECJ also noted that interpretation of Community law varied greatly at the time. Therefore, the Treaty could not confer upon a company the right to transfer its headquarters to another member state while also allowing the company to retain its incorporation status under the legislation of the first Member State. Daily Mail is noteworthy because: (1) it involved a company’s attempt to move its headquarters due to the tax advantages of doing so; and (2) because the host country tried to prevent the move by imposing harsh requirements and restrictions upon the company. Therefore, Daily Mail can be regarded as a stepping stone to other freedom-of-establishment cases, although it did not deal specifically with the protection of corporate shells’ limited liability, thus differentiating it from the other cases. This “seat theory” however can be regarded as having taken a severe hit following the decision of ECJ in Centros, which we shall presently deal with in detail below. B. Centros in light of Daily Mail In Centros,13 the ECJ made perhaps its first fundamental ruling on freedom of establishment. The facts of the case are briefly thus: the founders of a Danish company, after undergoing a process of forum shopping, chose to incorporate in the United Kingdom because the United Kingdom had a very simple and inexpensive incorporation procedure, unlike the procedure used in Denmark, which was expensive and time-consuming. The company’s founders, then, established a limited liability company in the United Kingdom and later set up a subsidiary in Denmark. However, the newly established U.K. company had never conducted business in the United Kingdom, in spite of the fact that it had legally incorporated there. The Danish government refused to allow the creation of the U.K. subsidiary in Denmark. When the company’s founders sued, the case went before the ECJ to test if the Danish blocking of the subsidiary conflicted with the freedom-of-establishment clause. The ECJ found that the Danish government’s refusal indeed violated the law.14 Consequently, the Centros decision supports the proposition that companies within the European Community may freely forum shop and choose the most advantageous location in which to incorporate. Interestingly, Centros makes neither explicit nor implicit reference to Daily Mail. This omission can be easily explained by the fact that Centros did not raise any conflict-of-laws question because incorporation theory applies in Denmark. Accordingly, Denmark could not base its objection on seat theory grounds but rather was forced to defend the validity of Danish substantive law. It seems reasonable for us to assume that had Denmark abided by seat theory it could have justified its refusal to register Centros’ branch on the ground that Centros was in effect attempting to register its ‘seat’ in Denmark in contravention of Danish law. A reading of the decision of ECJ in Daily Mail also conveys the impression that the ECJ has restricted the substantive scope of the freedom of establishment so as to prevent it from interfering with Member States’ conflict-of-laws legislation. C. Incorporation theory vis-à-vis real seat theory If we assume the correctness of our theory that Daily Mail imposed a restriction on the substantive scope of the freedom of establishment, then it may well be argued that after Daily Mail the connecting factors referred to in Article 48 can never be regarded as a prohibited restriction on the freedom of establishment. Therefore, the ECJ would have bowed to Denmark’s seat theory defense, if only it had raised it. As one commentator puts it:15 The Member States may not impede the setting up of a branch by a foreign company - but, in as far as an impediment is created by a conflict-of-laws rule using a connecting factor referred to in Article 48, such impediment is tolerated by Article 43. Thus, in light of the above it can be seen that the only losers after Centros are the incorporation theory states. They are left with the dilemma of either extending creditor protection regulations to foreign companies that conduct some business in the state of incorporation in order to avoid the reproach of inconsistency or switching to real seat theory in order to protect against pseudo-foreign corporations. D. Inspire Art: An Analysis With an understanding of the precedents we may proceed to analyze the findings and implications of the Inspire Art. The following are the questions that concerned the ECJ while deciding the case: 1) Are Articles 43 TEC and 48 TEC to be interpreted as precluding the Netherlands from attaching additional conditions, such as those laid down in Netherlands’ law, to the establishment in the Netherlands of a branch of a company which has been set up in the United Kingdom with the sole aim of securing the advantages which that offers compared to incorporation under Netherlands law? 2) If, on a proper construction of those articles, it is held that the provisions of the Netherlands law are incompatible with them, must Article 46 TEC be interpreted as meaning that the said Articles 43 TEC and 48 TEC do not affect the applicability of the Netherlands rules laid down in that law, on the ground that the provisions in question are justified for the reasons stated by the Netherlands legislature? In answering these questions, the ECJ clarified the standard for examining the freedom of establishment of Article 43 EC and declared that Netherlands law must not breach the principles of Article 43. In sum, the ECJ found that the Netherlands law had overstepped its bounds. In the words of the Court:16 “The reasons for which a company chooses to be formed in a particular Member State are, save in the case of fraud, irrelevant with regard to application of the rules on freedom of establishment ... The Court has also held that the fact that the company was formed in a particular Member State for the sole purpose of enjoying the benefit of more favourable legislation does not constitute abuse even if that company conducts its activities entirely or mainly in that second State”. [Emphasis added] Accordingly, the ECJ deemed as irrelevant the question as to whether or not a company is established in a Member State for the sole purpose of setting up business in a second Member State. Thus, a company that is established in one state is a company of that state, and it enjoys the right to exercise freedom of a subsidiary establishment wherever it may choose to relocate within the EU. As a result, the establishment of the company arises from its state of establishment and with that comes its subjective right to fundamental freedoms with regard to the host state in accordance with Article 48 TEC, but only if it is established pursuant to the law of a Member State and if it maintains its statutory seat, its head office or its main branch within the Community. Because Inspire Art Ltd. was established under English law and because it also has its statutory headquarters in England, in compliance with local law, the company is therefore entitled to fundamental freedoms as an English limited liability company. For that reason, Inspire Art also has the right to carry out its activities in another Member State through a branch in the Netherlands.17 As a result, the Netherlands law, which obligates the branch of a limited liability company established under English law to observe provisions of the Dutch company law, was deemed to have placed an illegal restriction upon the English companys freedom of secondary establishment. Therefore, it may safely be concluded that the ECJ in Inspire Art provided a firm reminder that tests of legal justification for the restrictions in the Member States’ laws must comply with the terms stipulated in Centros. [IV]: Conclusion As can be seen from the Inspire Art decision, the scope of application of municipal laws has become increasingly narrow. Specifically, because pseudo-foreign companies in fact appear foreign (their origin is made clear from their designation), potential creditors receive sufficient notification of their status. Thus, creditors are effectively on notice: if they choose to loan money to a company of a different capitalization than that to which they are accustomed, they take on that risk knowingly. In other words, European law has tied the hands of the national legislatures and forced them to comply with the letter and spirit of the freedom-of-establishment clause. Reference: 1. Kamer van Koophandel en Fabrieken voor Amsterdam v. Inspire Art Ltd., Case C-167/01, 2003 E.C.R. I-10155. 2. The Queen and HM Treasury and Commissioners of Inland Revenue ex parte Daily Mail and General Trust PLC on the interpretation of Articles 52 and 58 of the EEC Treaty and the provisions of Council Directive 73/148 of 21 May 1973 on the abolition of restrictions on movement and residence within the Community for nationals of Member States with regard to establishment and the provision of services, Case 81/87, 1973 O.J. (L 172) 14. 3. Centros Ltd. v. Erhvervs- og Selskabsstyrelsen, Case C-212/97, 1999 E.C.R. I-1459 4. Roberta Romano, The Genius of American Corporate Law 129 (AEI Press, 1993) 5. Eric Stein, Harmonization of European Company Law, 37 L. & Contemp. Probs. 318, 324 (1972) 6. Clive M. Schmitthoff, The Future of European Company Law, in The Harmonisation of Company Law 3, 9 (Clive M. Schmitthoff ed., 2d ed. 1973) 7. David Charny, Competition Among Jurisdictions in Formulating Corporate Law Rules: An American Perspective on the “Race to the Bottom” in the European Community, 32 Harv. Intl L.J. 423 (1991) 8. Catherine Holst, European Company Law After Centros: Is The EU On The Road To Delaware? 8 Colum. J. Eur. L. 323 (2003) 9. Wulf-Henning Roth, Case Note, 37 Common Mkt. L. Rev. 147 (2000) Read More