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The Commercial Code of Ethiopia is Changing How the Country Does Business
By Tsegamlak Solomon | Wed Apr 07 2021
When investors think about Ethiopia, they often see the country as a difficult one to do business in. According to the World Bank, Ethiopia ranks 159 out of 190 in their Ease of Doing Business ranking. While several reasons contribute to this ranking and the challenging business environment, the country has been working to rectify this and has been progressing their laws and programs to entice more people to invest in the country. One of the major changes that happened in 2019 was the adoption of the Homegrown Economic Reform Program, which aimed to transition the country’s economy and improve the country’s ranking. Since 2019, the country has been working to update outdated codes, including the most recently adopted Commercial Code of Ethiopia, Proclamation No. 1243/2020 (the “New Code”). This repealed the Commercial Code of the Empire of Ethiopia Proclamation No. 166/1960 (the “Repealed Code”), which served the country for more than six decades.
The enactment of the New Code, which happened in March 2021, has been in the works for years, even before the 2019 reform program enactment. However, with the reform program, the Ministry of Trade and Industry was given the mandate to drive the enactment process forward. As such, the Ministry submitted a draft to the Council of Ministers last year. The Council of Ministers endorsed the draft code back in June 2020 following which Parliament approved the enactment with a unanimous vote in March 2021.
Many factors necessitated the need for a revision to the Repealed Code, which all came down to its incompatibility with the current state of doing business. Many things have changed during the past six decades which made the Repealed Code outdated and inadequate to regulate current trade developments. The New Code is expected to accommodate the current state of how businesses operate and is expected to serve the country for the next 30 years.
Keep reading to find out more about the changes you can expect to see within the New Code:
1. Definition of a Trader
The Repealed Code defined a trader as a person engaged in specific activities, listed under an exhaustive list, mentioned in the code. Any person engaging in a sector that is not listed in one of those areas was not considered a trader. This meant that even though a person engaged in an activity that they believed was profitable and was something they could undertake professionally, they would not be considered a trader if that activity was not explicitly listed in the code as an act of trade, and, hence, they could not enforce the provisions of the commercial code.
The New Code resolved this problem in two ways. First, it expanded the number of areas considered as trade from twenty-one to thirty-seven. Second, it changed the listing mechanism from exhaustive to illustrative, which means if a certain person does an activity “professionally” and “for gain” that person can be considered a trader even though the activity is not specifically listed in the code. This allows the New Code to accommodate activities that could be introduced in the future, which are not currently anticipated as trade activities.
2. Changes in the Types of Business Organizations
The Repealed Code classified business organizations into two broad categories: partnerships and companies. Partnerships were further classified into Ordinary Partnership, Joint Venture[1], General Partnership (GP) and Limited Partnership (LP). Companies were classified as Private Limited Companies and Share Companies.
The New Code got rid of the Ordinary Partnership business organization form and kept the other three forms. In addition, the New Code introduced a Limited Liability Partnership (LLP) as a new form of partnership. The LLP is a business organization designed specifically for people who hold professional licenses, like lawyers and accountants, to render professional services.
Separately, the New Code added a One-person Company in addition to the Private Limited Company and Share Company forms that were preserved from the Repealed Code. As the name implies, the One-person Company can be formed by one person, something that was not previously allowed under the Repealed Code.
3. Operation of Branch Offices for Foreign Companies
Even though the opening of branch offices in Ethiopia by foreign companies is not new, it is new for the Commercial Code to incorporate the details of that under a separate title.
The New Code provides details about the management of a branch and the duties and responsibilities of a branch manager.
4. Getting Rid of the Articles of Association Requirement
The formation of a company is made through a public memorandum which contains the details of the company such as name, address, membership, capital contributed, etc., which is referred to as the ‘memorandum of association’. In addition to the memorandum of association, the Repealed Code required articles of association, which govern the operation of the company.
However, the New Code got rid of the requirement to have articles of association as part of the formation of the company. Under the New Code, the mere adoption of the memorandum of association by the founders is sufficient to establish a company.
5. Forms of Shares
The Repealed Code recognized two forms of shares: registered and bearer shares. Bearer shares are owned by a person who has the share certificate and can be transferred by mere delivery of the certificate to another person. On the other hand, registered shares need to be registered in the name of a specific shareholder under the company’s registry, hence, any transfer needs to be registered.
The New Code, compatible with other share transfer rules of the country, got rid of bearer shares. Also, the New Code came up with an incorporeal form of shares, which is a share created electronically by a financial institution licensed by the National Bank of Ethiopia, which is a reference to shares traded in stock markets.
The New Code gives a grace period of three years for people who are already holding bearer shares based on the Repealed Code. These people need to convert their bearer shares to registered shares within the coming three years, after which the holder of a bearer share will not have any membership rights in a company.
6. New Rules Concerning Share Transfers
A. Mandatory Redemption by Request of Minority Shareholder
The New Code introduced a minority shareholder protection clause in which a minority shareholder holding less than 10% of the shares in a company may request a majority shareholder, holding more than 90% of the shares in a company, to redeem its shares. With the request, the minority shareholder needs to provide the basis used for determining the redemption price. If the price proposed by the minority shareholder is not acceptable to the majority shareholder, they can refer the case to court, and the court will appoint an expert to determine the price.
B. Redemption by a Majority Shareholder
A shareholder holding more than 90% of a company can request that the minority shareholders have their shares redeemed by that shareholder, and the request shall take effect in 5 weeks. The same rules apply, discussed above, for determining the redemption price.
C. Mandatory Bid
If any person wants to buy shares representing 50% or more of the total capital of a company, that person will be required to make a tender offer to all the shareholders of the company. Despite having this provision, the New Code is not clear about the circumstances and conditions in which this mandatory bidding process will occur.
7. Board Related Changes
In the ladder of corporate governance, the role of the Board of Directors is immense. Under the Repealed Code, the establishment of a Board of Directors is only recognized for share companies. Under the New Code, the following major changes are adopted concerning a Board of Directors.
A. Non-Shareholder Board Members
In the Repealed Code, only shareholders of the company were allowed to be represented in the Board of Directors. This requirement has been eliminated by the New Code, which allows companies to appoint non-shareholders as directors. This change enables independent directors to sit on the Board, bringing an outside perspective and more objective viewpoint to the company.
B. Board of Directors in Private Limited Companies
The New Code introduces a Board for private limited companies. As discussed above, only share companies used to be required to establish a Board of Directors. However, members of a PLC have been given the option to establish a Board of Directors under the New Code.
C. Introduction of a Supervisory Board
Companies have been given an option to establish a supervisory board, in addition to a Board of Directors. The number of supervisory board members may not be less than three or more than five. Only shareholders of the company who are not already members of the Board of Directors can be appointed as members of the supervisory board.
This change introduces a tiered board system to the Ethiopian company law. A supervisory board is empowered to oversee the Board of Directors and the management to ensure that directors and managers are discharging their responsibilities properly. The supervisory board also oversees the financial affairs of the company and can recommend corrective measures when they see acts that jeopardize the interest of the company. Finally, the supervisory board is empowered to undertake the role of a board of directors in the absence of directors in terms of calling general meetings of shareholders, and the supervisory board will have a non-voting seat on the Board of Directors.
8. Recognition of Holding Companies
The New Code recognizes holding companies. Even though the commercial registration and business licensing proclamation No. 980/2016 recognized the possibility of establishing a holding company, the practicality of it has been in question as the proclamation left several gaps.
The New Code fills those gaps and sets out a description of what categorizes a holding company. It recognizes the holding company’s right to access information from the subsidiary, the right of the holding company to give instructions to the management of a subsidiary, and the right to redeem the shares of minority shareholders of the subsidiary, among others.
9. Detailed Rules about Merger and Division of a Business Organization
The New Code includes detailed rules about mergers and division of business organizations. These rules align with the current legal and institutional framework of doing business. The New Code provides details about the merger and division decision-making process, rights of different stakeholders and the practical procedures for completing these functions.
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