Substance vs. Form in Shareholder Financing: How Does This Affect the Corporate Interest?

This article analyzes the “substance versus form” contrast in the context of shareholders’ financing, exploring how it simultaneously affects both the corporate creditors’ protections and the long-term growth of the company. In particular, the paper describes the role of shareholders’ financing in the corporation capitalization and its qualification under the current “substance versus form” debate; then it illustrates the substantial approach commonly taken by the case law and explores the effects of the above mentioned debate on the corporate creditors’ protections; finally, the paper examines the impact of this practice on the governance side. This article argues that, in a context where substance should govern over form, the most acceptable standards of review should be those that refuse a mechanical application of the formal factors and privilege a comprehensive approach that can lead to a common sense evaluation of the facts and circumstances surrounding a transaction. In other words, the so-called “substantial factors” should certainly be helpful in reaching such a common sense understanding of the transaction since they may show the objective intent of the parties. In short, judicial tools that legitimate and expand the recharacterization of debt to equity are advisable devices because at the same time (1) they strengthen the (actual) corporate creditors’ protections; and (2) they foster a long-term growth of the company which benefiting from a conversion of its financial resources into equity (i.e., perpetual capital), may pursue a business strategy more focused on a sustainable and careful development of the enterprise.