REGULATIONS ON CONVERSION OF LOAN INTO EQUITY

by Admin

30/09/2023

Documentation & Knowledge

REGULATIONS ON CONVERSION OF LOAN INTO EQUITY

            Companies mainly raise finances through share capital (by issuing equity and preference shares) and loans (by issuing bonds/debentures). While shares and debentures are issued to the investors and can be tradeable on the exchange, both are methods of raising capital – shares are called own capital, and debentures are called borrowed capital. 

In recent years, many Vietnamese enterprises, especially small and medium-sized enterprises, have chosen to borrow capital from abroad to develop or maintain economic activities, however, for many different reasons, many loans become bad debts. For that reason, in this periodic publication, Dai Ha Thanh limited liability law company respectively sent to our Clients some general regulations of Vietnamese law on the issue of converting foreign loan into shares or contributed capital in the enterprise.

I. Overview of the method of converting loan into shares or contributed capital

1.1. Regulations regarding Foreign loan

Government-guaranteed loan

Non-Government-guaranteed loan

Government-guaranteed loan means loan in which the Government commits to the Lender in writing to comply with debt and related interest rates payment obligation if the Borrower fails to comply with its obligations.

 

Government guaranteed foreign loan in any form via 

1, loan contracts, 

2, deferred payment import contracts,

3, loan entrustment contracts, 

4, finance lease contracts, or 

5, issuing debt instruments on the international market by the borrower.

Non-government-guaranteed loan (hereinafter referred as “self-borrow, self-paymemt loan”) means loan for which the Borrower will be fully responsible for repayment to the Lender.

Depending on each type of loan, specific regulations on conditions, borrowers and dossiers, legal procedures that need to be carried out will be different. Therefore, the most important issue is that Vietnamese businesses need to consider and determine which case their business loan falls into.

1.2. Definition on method of converting loan into shares or contributed capital

Converting a loan into shares or contributed capital is converting a debt into an investment. The Lenders, foreign enterprises or individuals, become Investors in the method of investment by contributing capital and purchasing shares of the Borrowers. In other words, the Lenders have invested in the Borrower's enterprises but completed the investment payment before officially becoming a member or shareholder in the Borrower's enterprises.

Notes: Normally, when referring to a business's capital source, two terms will be mentioned: charter capital and equity capital. These are two essential types of capital in business operations. Meanwhile, converting a loan into shares or capital contribution will affect the capital source of the Borrower's business. Therefore, distinguishing between Charter Capital and Equity will help Clients better understand the nature of this activity.

Item

Charter capital

Owner's equity 

Definition

Charter capital means total value of assets contributed or undertaken to be contributed by members of the company, owner of the company when establishing liability limited company, partnership; means total aggregate par value of shares sold or registered for subscription when establishing a joint stock company.

Owner's equity means capital contributed by owners of the company, members of a joint venture company, or shareholders in the joint stock company to operate the company. At the same time, it is the net assets of the company or the remaining after subtracting liabilities from total assets.

Elements

Assets contributed as capital:

- Vietnamese Dong;

- Freely convertible foreign currency;

- Gold;

- Land use rights;

- Intellectual Property Rights;

- Technologies;

- Technical Know-how;

- Other assets which can be valued in Vietnamese Dong.

Primarily, owner's equity is composed of the following:

- Shareholders equity;

- Business operating profits;

- Enterprise fund (development investment fund, reserve fund);

- Capital surplus: the difference between the share price at issuance and the current par value;

- ​Asset valuation differences, Exchange rate differences;

- Other sources mentioned in this article.

Feature

Charter capital can be considered as an asset or liabilities when the enterprise goes bankrupt

Owner's equity is contributed by the owner of the company and investors or created from business results, so owner's equity is not a debt.

II. Regulations on method of converting loan into shares or contributed capital

Pursuant to current regulations, Vietnamese enterprises (hereinafter referred to as “the borrowers”) must open loan accounts at providing account-services banks  or using direct investment capital accounts to perform remittance transactions (including repayment transactions) related to the foreign loan. However, there are several cases in which the Borrowers cannot repay debt when due, which affects Vietnam's foreign loan borrowing activities. 

Therefore, to improve the flexibility of foreign capital borrowing and repayment activities, as well as to promote the ability to mobilize foreign capital, the Borrowers can choose a method of debt-repayment not through a loan account, specifically:

No.

Methods of debt-repayment not through foreign loan repayment account

1

The Borrowers shall provide goods, services to the Lenders

2

The Borrowers and the Lenders agree to convert debt into share or contributed capital of the Borrowers

3

The Borrowers and the Lenders agree to swap debt into share or contributed capital owned by the Borrowers

4

For the medium, long term of foreign loans, the Borrowers can repay debt by clearing receivables directly with the Lenders

5

If the Borrowers are allowed to open loan accounts abroad, the Borrowers can repay debt through that account

Thus, converting a loan into shares or contributed capital is one of the methods by which the Borrowers repay debt to the Lenders without using the loan account at the bank.

1.3. Conditions for converting loan into shares or contributed capital

Currently, the law does not have any specific regulations about the conditions for converting foreign loans into shares or contributed capital in the enterprises. Nevertheless, in reality, the Vietnamese enterprises have to meet some basic conditions to make the transition happen quickly, and smoothly, as follows:

- The legality of the loan: ensuring that the loan is used in accordance with the loan-use plan registered with the State Bank, and that all obligations related to the loan registration have been fully done and on time implemented, periodic loan reporting;

- There must be an agreement between the parties on converting loan into shares or contributed capital;

- The Lenders must meet the conditions for receiving foreign investors in the form of capital contribution investment, purchase of shares or capital contribution of the Borrower in terms of market access conditions and capital ownership ratio in businesses and other conditions related to defense and security activities in the territory of Vietnam.

1.4. The process of converting loan into shares or contributed capital

Primarily, the process of converting a loan into shares or contributed capital has three main stages, including: (i) negotiating on conversion, (ii) approving the loan conversion and decision on increasing charter capital and (iii) implementing administrative procedures at the competent authorities

 

 

Stage

Content

1

Negotiating on conversion

The Vietnamese enterprises, when having a desire to convert loan into shares or contributed capital, will have to negotiate with the lenders since with thís method, the lenders will become the foreign investors with the role of the capital contribution members or shareholders in the borrower’s enterprises. At that time, foreign enterprises will face numerous legal and financial risks related to the investment. Besides, as an Investor, the lenders will incur legal obligations during enterprise operations in Vietnam. Therefore, converting a loan into shares or capital contribution in a business will lead to many issues that the lenders need to consider to ensure its rights.

2

Approving the loan conversion and decision on increasing charter capital

Pursuant to current regulations, when enterprises want to increase or decrease its charter capital, depending on the specific business type, the enterprises will have to conduct a process of consulting with the General Meeting of Shareholders or the Council members to decide to agree to issue additional shares or accept new capital contributing members. Meanwhile, converting foreign loans into contributed capital or shares will simultaneously lead to an increase in the charter capital of the enterprises due to an increase in charter capital or an increase in the number of members. Therefore, for the conversion of loans into shares or capital contributions, Vietnamese enterprises will have to conduct internal meetings and approve basic decisions in each of the following cases:

 

Case 1: The Lender is already a member or shareholder in the Borrowers' enterprise:

- Decision on converting loan conversion into shares or capital contribution decision;

- Decision on increasing charter capital through issuing shares or receiving additional contributed capital from the Lender: In this case, the Lender’s capital contribution after conversion includes the already contributed capital and the new capital converted from the loan. In other words, the total capital in the Borrowers' enterprise will increase due to the increase in the Lenders' capital contribution. Thus, the Borrowers must implement procedures to adjust the charter capital increase due to the increase in the Lenders' contributed capital.

 

Case 2: The Lender has not been a member or shareholder in the Borrowers' enterprise:

- Decision on converting loan conversion into shares or capital contribution decision;

- Decision on increasing charter capital through issuing shares or receiving capital contributing members: In this case, after converting the loan, the Lender will be a capital contributing member or shareholder of the Borrower’s enterprise. Thus, the Borrower must implement procedures to adjust the charter capital increase due to shares issuance or receiving capital contributing members.

3

Implementing conversion procedures at competent authorities

During this period, the parties need to carry out procedures respectively at the Department of Planning and Investment and the State Bank.

a. Department of Planning and Investment

Regarding the investment process by purchasing shares or capital contribution, the Borrowers must implement the following procedures in turn:

(i) Implementing procedures for registering capital contribution and purchasing shares at the Department of Planning and Investment:

As stated above, converting a loan into shares or capital contribution will result in the Lender becoming Investor by the method of capital investment, purchase of shares or capital contribution in the enterprise. According to the provisions of the Investment Law 2020, for this investment method, Investors will have to carry out registration procedures for approval of capital contribution, share purchase, capital contribution with the Department of Planning and Investment where the main establishment enterprises are located.

(ii) Implementing procedures for notifying changes in content on the Investment Registration Certificate (if any):

For foreign-invested enterprises that have previously been granted Investment Registration Certificates, loan conversion will lead to changes in some information about the investors, total capital, and ratio holding the Lenders' capital contribution or shares in the Borrowers' enterprise. Therefore, pursuant to current legal regulations, the Borrowers will have to carry out procedures to update information about the new Investors in the Investment Registration Certificate.

(iii) Implementing procedures to change content on the Enterprise Registration Certificate:

Pursuant to the provisions of the Law on Enterprise 2020, during operation, if  enterprises change the content of the Enterprise Registration Certificate, it must register the change. Converting a loan into shares or capital contribution in an enterprise will result in a change in information about owner members or the enterprise’ charter capital. Therefore, the enterprise needs to carry out procedures to register to change the content of the Enterprise Registration Certificate at the Department of Planning and Investment where the main establishment enterprises are located. 

b.    State bank

Pursuant to current legal regulations, for foreign loans that must be registered with the State Bank, enterprises will have to register to change the loan if there is a change in information related to the loan. Meanwhile, converting a loan into shares or capital contribution will lead to changes in some information related to the repayment period, remaining debt to be paid, or repayment method, etc. Therefore, enterprises will have to carry out procedures to register to change loan information. This activity is to help competent authorities to fully update, check and monitor the performance of loan obligations.

To register to change the loan, within 30 days from the date parties sign an agreement to convert the loan into shares or capital contribution, the Borrowers will have to send the dossiers to the State Bank or State Bank branch where the main establishment enterprises are located. 

 

After receiving valid dossiers, the competent authority checks and reviews the accuracy of the loan change documents and updates information about loan information changes on the loan management website, foreign borrowing and debt repayment are not guaranteed by the Government.

 

Above are the basic legal issues related to converting loans into shares or capital contributions in a business. Dai Ha Thanh limited liability law company, with a team of Lawyers and Legal Advisors who have extensive expertise and practical experience, is committed to providing professional legal services to our customers. In case you have any questions related to this issue, please contact us to be provided with professional and effective legal consulting services.