Issuance of Shares of Preferred Stock in Limited Liability Companies: from the controversy in the literature to a practical definition

Are LLCs allowed to issue shares of preferred stock? Read this article written by our partner Pedro Henrique F. Raimundo and lawyer Isabela Hohl, specialists in Corporate Law and M&A operations, about the controversies on the subject.

Issuance of Shares of Preferred Stock in Limited Liability Companies: from the controversy in the literature to a practical definition

Since the Civil Code of 2002 (“Civil Code”) came into force, there has been an intense discussion about the possibility of the capital stock of limited liability companies being able to issue shares of preferred stock, since there is no legal provision on the subject in the Civil Code itself.

Thus, due to the fact that the Civil Code speaks nothing on the subject, the literature could come to a consensus in this regard. Part of it understood that a limited liability company is an association of people and therefore not compatible with the issuance of shares of preferred stock, since these may be characterized by the suppression or limitation of political rights (i.e., the right to vote of the shareholder). At the same time, another part of the literature argued that, because the institute of shares of preferred stock is not expressly prohibited, the private autonomy and contractual freedom are to be applied and, therefore, the shares of preferred stock would be compatible with limited companies. Although there are arguments in both directions, there was a practical ineffectiveness to this, since the Department of Business Registration and Integration (“DREI”) and consequently the Registries of Commerce did not allow the creation of shares of preferred stock in LLCs.

In 2017, however, DREI changed its position and published Ordnance No. 38/2017, which provided that Law No. 6.404/1976 (“Corporation Law”) would be applicable to limited liability companies with respect to shares of preferred stock. However, at the time, law authors were far from reaching a consensus as to the validity and lawfulness of the shares of preferred stock in LLCs, as well as whether it would be possible to split the share capital into such shares. Because of this divergence, there was great legal uncertainty about the subject in a way that made it impossible, from a practical point of view, for limited liability companies to issue shares of preferred stock.

Given this need of having one single understanding on the subject, on June 15, 2020, DREI Ordnance No. 81/2020 was published, bringing several innovations, including the clear provision that the shares of preferred stock are admissible in limited liability companies.

Item 5.3.1 of the Limited Liability Company Registration Manual specifically provides that shares of different classes are accepted in these companies and that the Articles of Organization of the company shall have the provisions in this regard. In addition, the item also provides that to the holders of the shares may be assigned various economic and political rights, and the right to vote may be limited or suppressed, provided that one respects the limits imposed by the Corporation Law, which shall be applied regardless of the provision in the Articles of Organization in this regard.

Therefore, from a practical point of view, within the scope of the registration of companies before the Registries of Commerce of Brazil, the capital stock of limited liability companies admits shares of preferred stock, which is considered a great boon to businesses in general, given that it allows greater freedom and flexibility in the definition of the corporate structure and new modalities of investment and funding of limited liability companies, considering that the shares of preferred stock will exercise a relevant role in fund raising by LLCs because it will then attract investors whose goal is not to have a direct interest in the activities of the company and in its day-to-day operation.

Finally, despite the disputes on the subject, with the aim of ending this discussion in the literature, it can be said that, since June 2020, there has been an unanimous understanding in Brazilian law, from a formal point of view, about the admissibility of shares of preferred stock in limited liability companies, without prejudice to the need to legislate so as to better regulate the particularities of this institute to limited liability companies, in order to clear any doubts and possible practical obstacles to having shares of preferred stock seen as entirely adequate do LLCs.

# limitedliabilitycompanies  #corporatelaw #sharesofpreferredstock