Legal issue: Whether it is compatible with the freedom of establishment to refuse registration of a branch of a company lawfully founded in another Member State, in which, however, the company itself does not carry on any business?

Background of the case: Two Danish citizens established Centros Ltd under the UK company law for carrying on a wine import and export business. The company was trading only in Denmark, however. The incorporators clearly stated that they had established the entity under the UK company law solely to avoid the minimum capitalisation requirement for Danish limited liability companies (in Denmark this was 125,000 Danish kroner, while in the UK the minimum capital requirement was £1). The Danish commercial registry considered this to be an unlawful circumvention of the Danish minimum capitalisation rules and so refused to register the company’s branch office in Denmark. The Danish registry justified its enforcement of the rule by the necessity to protect creditors and prevent fraudulent insolvency. Centros Ltd argued that it had the right to be recognised in Denmark under the provisions of freedom of establishment in the EC Treaty, articles 52 and 58. The Danish court referred the matter to the ECJ.

The decision: The ECJ held, first, that where a company exercises its freedom of establishment under the EC Treaty, the Member States are prohibited from discriminating against this company on the ground that it was formed in accordance with the law of another Member State in which it has its registered office but does not carry on any business. So, the Danish authorities' refusal to register the branch of the company was contrary to Articles 52 and 58, and it not justified by the aim of protecting creditors by anticipating the risks of fraudulent bankruptcy due to the insolvency of companies having inadequate initial capitalisation. Second, a Member state is not authorised to restrict freedom of establishment on the ground of protecting creditors or preventing fraud if there are other ways of doing so: the national authorities could adopt less restrictive measures, such as enabling creditors to obtain necessary guarantees, or could adopt measures preventing or penalising fraud, if necessary with the cooperation of another Member State. Besides, the Court pointed to there being an opportunity for Member States to adopt harmonising legislation in this area of company law on the European Community level.

That interpretation does not, however, prevent the authorities of the Member State concerned from adopting any appropriate measure for preventing or penalising fraud, either in relation to the company itself, if need be in cooperation with the Member State in which it was formed, or in relation to its members, where it has been established that they are in fact attempting, by means of the formation of a company, to evade their obligations towards private or public creditors established in the territory of the Member State concerned.

Significance and implications: In this leading case the ECJ gave quite a liberal interpretation of the freedom of establishment.