How to Improve Corporate Law for Investors in Uzbekistan
In recent years, the legislation of the Republic of Uzbekistan has undergone significant changes due to reforms initiated by the country’s leadership. These reforms aim to create favourable conditions for foreign investors, reflecting a commitment to openness. However, foreign entrepreneurs often need to improve Uzbekistan’s corporate legislation when navigating the market and conducting business. Damir Amanbaev, a corporate practice advisor at RGD International Central Asia, discusses strategies to transform corporate law into a more flexible and effective tool for attracting investment.
Reforms in Uzbekistan
As of April 1, 2024, the number of foreign companies in Uzbekistan has grown by 1.2 times, reaching 14,226. At first glance, this may seem modest—accounting for about 2% of all registered enterprises in the country. For Uzbekistan, this is a significant figure. Between January and March 2024, foreign companies invested 73.8 trillion soums into the country, which represents 93% of all investments during that period.
Part of this increase in foreign investment is linked to geopolitical events, particularly the escalation of the conflict in Ukraine. In 2022, Russian businesses opened 967 enterprises in Uzbekistan, becoming a leader among other countries.
However, the primary reason for this growth lies in the country’s new economic policy. In 2016, under the leadership of Shavkat Mirziyoyev, Uzbekistan shifted towards openness and market reforms. Since then, lawmakers have actively amended the legal framework to protect the rights of foreign investors. Modern arbitration centers, such as TICC and TIAC, have been established, and agreements for the mutual protection of investments and avoidance of double taxation have been ratified and updated with the USA, Turkey, Japan, the UK and others.
Furthermore, Uzbekistan is adopting its laws to regulate relationships with foreign investors and partners, including the establishment of special economic and free customs zones.
Challenges for Investors
Despite these positive developments, Uzbekistan’s corporate legislation still needs to be improved. Investors encounter challenges in several key areas, including profit and loss distribution, protection of minority shareholders’ rights, management accountability for decisions or negligence and the fair distribution of insufficient debtor assets among creditors.
We want to highlight nine important legal concepts that have proven effective in modern corporate law and could significantly ease the operations of foreign companies in Uzbekistan. Some concepts are absent in Uzbek legislation, while others exist as analogues or similar phenomena. In some cases, investors may utilise legal tools not explicitly present in Uzbek law, guided by principles of freedom of contract and autonomy of will. This includes warranties, assurances, rights to forced buyouts and put and call options on shares.
Warranties
In the modern corporate world, parties can agree on warranties within a transaction. A warranty is an assurance from the seller to the buyer regarding the existence or absence of particular circumstances. If these assurances are false, the buyer is entitled to claim damages. There are various types of warranties; for example, a seller might guarantee that the intellectual property of the sold company is legally owned by it and will not be subject to disputes in the future.
Uzbekistan’s Civil Code includes a similar legal concept—a warranty of ownership rights. In a transaction, the seller must ensure that the goods are free from claims and encumbrances. If not, the buyer can demand a price reduction, seek damages, or terminate the contract. However, the application of this concept in corporate scenarios appears to be limited, as it is primarily focused on real estate transactions.
Parties can include warranties in a traditional Anglo-American format within a sales agreement. Uzbekistan operates under the principle of freedom of contract, allowing parties to define their rights and obligations independently when concluding a deal, including the use of instruments not explicitly defined in the law.
The only requirement is that the contract procedures must be consistent with the imperative norms of Uzbek legislation and public order. Such norms include requirements for transaction forms, stipulations regarding payments in Uzbek soums, and prohibitions against discrimination based on nationality, gender, or religion, as well as exclusive jurisdiction clauses and antitrust law requirements, among others.
Indemnities
Uzbek law does not have a precise procedure for indemnities similar to warranties; however, there is an analogous principle concerning damages from a breach of contract. In practice, parties increasingly utilise this principle of freedom of contract and include indemnity clauses in bilateral agreements, often borrowing concepts from English law.
The concept of indemnities extends beyond mere compensation obligations and can be compared to insurance coverage for potential risks. The parties involved determine how to manage risk coverage that suits their needs. For instance, if a dispute arises related to the agreement, the seller may be required to cover the legal fees incurred while defending the buyer’s interests. In this scenario, the buyer does not suffer a loss, and the costs associated with the defined risk are covered, regardless of the outcome of the court proceedings.
This approach is currently a practical and convenient option. However, there are risks associated with enforcement due to the need for an independent regulatory framework governing this legal concept. Until indemnities are formally included in Uzbek legislation, they may be rejected or misinterpreted by lawmakers or the courts.
For example, in Russia, before a similar concept of indemnities was introduced into the Civil Code, some experts classified them as aleatory contracts (gambling or risky transactions). This classification imposed special requirements that were not relevant to corporate needs. As a result, some judges ruled that obligations arising from indemnities were invalid or reclassified as penalties.
Options to Purchase or Sell Shares
Uzbek legislation does not currently define the processes for buying or selling shares in a limited liability company (LLC). These provisions were anticipated to be included in a new version of the Civil Code planned for approval in 2021. However, discussions on the draft Civil Code concluded on February 25, 2021, and there has yet to be further information regarding its adoption.
In the meantime, local legislation offers a similar mechanism for purchasing or selling shares through preliminary agreements or sales contracts with deferred execution. An initial agreement outlines the future conclusion of a main agreement concerning the transfer of assets, performance of work, or provision of services under specified conditions. While this tool is helpful, it needs to improve the effectiveness of options regarding risk minimisation and regulatory precision.
If a seller fails to comply with the terms of the preliminary agreement concerning the sale of shares, the buyer may seek legal recourse to compel the seller to finalise the main agreement. When the dispute is resolved in court, the seller may have already sold the shares to a third party. In such a case, the buyer’s only option may be to claim damages.
Corporate Agreements (on Management of the Company)
The term “corporate agreement” is not defined in local legislation; only the “charter agreement” is recognised. The charter agreement outlines the composition of the company’s founders (participants), the amount of charter capital, the size of each founder’s share, the conditions and procedures for distributing profits and losses among the founders, and the procedures for participants to exit the company, among other details.
Generally, the charter agreement governs relationships among participants specifically related to the establishment or liquidation of the company. However, it typically does not cover the general issues of daily operations.
Despite this, parties are not prohibited from entering into a corporate agreement due to the freedom of contractual relationships and autonomy of will. The only stipulation is that such an agreement must not contradict Uzbekistan’s imperative norms and public order.
Entering into agreements not recognised in current legislation carries similar risks to those previously mentioned, primarily due to the need for legal certainty.
Prohibition on Participants Exiting the Company
When forming joint ventures, participants often use a special purpose vehicle (SPV) to facilitate project financing. In this arrangement, the parties may stipulate conditions under which founders are restricted from exiting the company. For instance, they might prohibit exits until the SPV meets certain financial benchmarks or until specific obligations of a founder related to launching the SPV are fulfilled.
However, Uzbek legislation does not allow such prohibitions and is, in fact, in direct conflict with existing laws. Participants in a limited liability company (LLC) in Uzbekistan have the right to exit the company at any time, regardless of the consent of other members.
This rule has two exceptions: (1) Uzbek law prohibits all participants from exiting the company simultaneously, and (2) a participant cannot exit if they are the sole founder.
In establishing a joint venture, investors can only include a prohibition in the charter against selling shares to third parties. In this case, a founder may sell shares only to other participants in the company or, if they refuse, back to the company itself with its consent.
Right to Forced Buyout (Squeeze Out)
In modern corporate practices, a majority shareholder can compel minority shareholders to sell their shares if the majority stake reaches a certain threshold. This process is known as a “squeeze-out.” In this situation, minority shareholders are compensated at either the actual value (based on accounting data) or the market value (determined by current market quotes or appraiser reports) of their shares.
This procedure allows the majority shareholder to consolidate ownership of the company in a legally sound and fair manner. Often, a company’s long and complicated history can result in inactive shareholders holding a significant portion of shares. Their involvement can hinder necessary changes that the majority shareholder—who may own, for instance, 95% of the total voting shares—wants to implement.
Many countries’ legislation also grants minority shareholders the option to sell their shares once certain thresholds are met by one or more shareholders or groups of shareholders.
Tag-along right and drag-along right
Tag-along rights refer to the entitlement of a minority shareholder (the “remaining” shareholder) to participate in a sale of shares to the same buyer under similar terms as those offered to the majority shareholder. This mechanism protects the interests of minority shareholders by allowing them to sell their shares under the same conditions as the majority shareholder.
Drag-along rights safeguard a new majority shareholder who wants complete control over the company upon purchase. Still, they may face challenges in buying out the shares of minority shareholders. This right allows the majority shareholder to require minority shareholders to join in the sale at the same price and on the same terms. Selling a large block of shares at once is often more advantageous than selling smaller portions individually.
Both concepts currently need to be added to Uzbek legislation. However, as Uzbek law permits, participants can include such provisions in a purchase agreement. Typically, tag-along and drag-along rights are outlined in the company’s charter or corporate agreement at its formation or during significant changes to its founding documents.
At the stage of entering into a purchase agreement, the interests of the participants may sometimes align. Forcing an independent party not involved in the agreement to participate can be challenging and must be conducted strictly according to the law.
Irrevocable Power of Attorney
An irrevocable power of attorney cannot be revoked before expiration, except in certain specified cases outlined in the document. It is designed to secure obligations assumed by a party. A power of attorney identifies the individual to whom it is granted and the obligation that this person has accepted (for example, to vote at a shareholders’ meeting in a specific manner).
Typically, the attorney appointed under such a power of attorney is someone closely associated with the recipient in the transaction or an authorised intermediary. Irrevocable powers of attorney are frequently utilised in “revolving transactions,” where terms depend on future circumstances, and the implications of those circumstances are pre-agreed upon by the parties involved.
In Uzbekistan, irrevocable powers of attorney do not exist. According to the Civil Code, the person who issues the power of attorney can revoke it at any time, and the attorney can also decline it. Furthermore, the parties cannot agree to waive this right, as doing so would violate mandatory legal norms in the country, rendering such an agreement invalid.
