Adequate equity and liquidity under Norwegian law

According to Section 3-4 of the Norwegian Companies Acts, a limited liability company must at all times maintain adequate equity and liquidity, taking into account the risks and scope of the company's operations. These requirements are crucial for both distributions from the company and for sound management and operations. Below, we delve deeper into these obligations.

1. Purpose of the provision
The requirement for adequate equity and liquidity is primarily intended to protect the company's creditors. Management's responsibility is emphasized by the statutory duty to continuously assess the company's financial development. If the situation is not adequate, management is obliged to implement necessary measures. Breach of this provision may result in liability for damages, cf. Section 17-1 of the Companies Acts.

2. Adequate equity
Both the requirements for adequate equity and liquidity call for a concrete and discretionary overall assessment. When evaluating equity, management must consider the risk and scope of the company's operations. Risks can be financial, operational, or business-related. For example, there is a significant difference between a real estate company with stable income and predictable costs, and a development company with high costs and uncertain income that may not materialize for several years.

It's important to assess the real equity, meaning that book values should be adjusted for surplus values not reflected in the balance sheet. Similarly, deductions should be made for obligations not shown in the balance sheet. While there's no prescribed method for determining the correct real values, a sound assessment must underpin any adjustments, especially if higher values than those recorded are assumed.

The assessment should not consider equity in isolation. The ratio between equity and debt, the composition of the debt, and the company's obligations must also be evaluated. The presence of subordinated loans or long-term financing often weighs positively in this consideration.

Previously, deductions were required for capitalized research and development, goodwill, and net deferred tax assets when determining the basis for dividend distribution. Although these references have been removed from the Act, the preparatory works suggest that these items are still considered poorly suited as a basis for dividend distribution when assessing adequate equity.

It's also appropriate to consider the company's phase. For startups, tighter equity and liquidity may be acceptable during initial periods until the business is fully operational.

3. Adequate liquidity
The provisions also require the company to have adequate liquidity, which measures the company's ability to meet its obligations as they fall due. 

A liquidity budget likely underpins the assessment of adequate liquidity. The time horizon for this budget depends on the company and how far ahead meaningful liquidity forecasts can be made. The liquidity assessment must also account for unforeseen events that may create liquidity needs.

4. Timing of the assessment
In practice, the board assesses whether equity and liquidity are sufficient when submitting annual accounts, distributing dividends, or making capital dispositions. However, the duty applies "at all times" and is not limited to annual reporting. The frequency of assessments depends on the individual company's circumstances.
Initially, the situation should be assessed as it is at the time of evaluation. However, a static assessment is insufficient. Management has both a duty and a right to consider future developments, including significant payments under contracts and expected economic conditions. Unforeseen events must also be contemplated in the assessment.

5. Duty to act
If the equity is not adequate, the board must address the matter. The same applies if equity falls below half of the share capital. The board is required, within a reasonable time, to convene a general meeting, provide a report, and propose measures to rectify the situation.