Comparing One-Tier and Two-Tier Systems: Corporate Governance and Director Appointments, Lecture notes of Law

Download Comparing One-Tier and Two-Tier Systems: Corporate Governance and Director Appointments and more Lecture notes Law in PDF only on Docsity! 20/10/2020 THE FINANCING OF A COMPANY DEBT There are two ways debt and equity Debt securities (bonds, debentures): they represent a division of a loan made to Co. into many fractions having the same size; no right to vote; bondholders (i.e. owners of a loan securities/ lenders) are only creditors of Co. Debt vs Equity: Debt is riskier for the business, because it must be repaid; safer for investor, but if Co. does well the profits do not need to be shared with lenders; equity is riskier for investors, because they can lose the money invested; at the same time, investors will obtain shares of the profits made by Co. The debt way is less riskier than the equity one, as with debt you have the right to have back your money Company can borrow money either : * taking a loan from a specific lender (eg: a bank) - “individual loan” —> not issuing any security is just between the company and the specific lenders, normal contract between the two * or by means of an issue of debt securities (bonds or debentures) — “collective loan” —> here there is the issue of some securities.you issue some bonds to the market and anyone who is interested buys that bond. Becoming creditor not owner, The bonds, or obligations, are securities which, in the same issue, confer the same debt rights for the same par value. If! borrow 1£ | have the same rights of all the people that bought 1£ bond. The term “bond” therefore refers: - on the one hand, to the negotiable security issued by the company. - and, on the other hand, the debt itself. The bondholder is a creditor of the company, and he is entitled to the perception of periodic interest and to obtain repayment of the maturing loan The holders of debt securities rank in priority to Shareholders, so they are paid before shareholders. And are remunerated through interest (fixed interest; interest indexed against inflation or linked to yield of a basket of other debt securities; zero coupon: all interest paid at maturity) * All public Co. can issue bonds * private Co. undergo restrictions in some jurisdictions, have more restrictions Each security represents a fraction of a loan issued by Co. and taken on by several lenders (collective loan) Bondholders are not shareholders, they remain creditors, but they have some individual rights: a) Information —> At any given time, each bondholder has the right to be informed of the decisions of the general meetings. For ex the decision of transforming a public company into a private company, it can happen that in some jurisdictions private company cannot have bonds b) Interest payment —> The bondholder is paid interest. The interest rate is determined by the issuing company based on market conditions at the time of issue. c) Right to repayment —>In most cases, the issue contract provides for the bonds to be redeemed at maturity at par, at their nominal value Bondholders collective rights: The bondholders of the same issue are in principle automatically grouped together for the defense of their common interests into a “mass” group. The bondholders act through a representative, a natural person appointed as the representative of bondholder and he has the right to participate to 60 broad of directors and auditors meetings and listen, and a bondholders’ meeting, in the meeting no shareholder will have the right to seat there. There could be also some shareholders sitting, but because they also hold bonds. The “mass” includes all bondholders of the company with the same characteristics (rate, maturity...). There may be different bondholders meetings for different classes of bonds There are different types of bonds : » Premium bonds: - There are two types: bonds issued below the fixed par value, in other words below par, and repayable at their nominal amount; bonds issued at par and redeemable at a higher amount (this is called a “redemption premium’). » Participating bonds : The repaid capital varies with the course of the business, for example with the turnover, the volume of production or the amount of gross or net profits. Connected to some kind of activity, for ex a bond referring to how it's going just one field of the company » Indexed bonds : The capital to be repaid is freely indexed. It may, for example, be a function of a variable element determined in direct relation to the general level of prices or wages > Convertible bonds : the bondholder has the right (not the obligation) to exchange his bonds for shares. Has the right to become shareholder » With warrants : The bondholder has the faculty, while maintaining the creditor position of the company, to subscribe or buy shares in the issuing company or in other companies. You keep your bonds and remain creditor for those bonds, and in addition you have the right to buy some new shares FRANCE The law of obligations has been extensively reviewed and modernized by governance ordinance n. 2017-970 of May 10, 2017 and Decree 2017-1165 of July 12, 2017 to promote the development of bond issues, which have in particular simplified the issuance regime and the rules of representation of bondholders In France, the bonds have the following features: - They constitute financial instruments and, in this category, financial securities (C. mon. et fin., art. L 211-1). - These are negotiable securities, that is to say, securities registered in accounts opened in the name of their holders, either at the issuing company (registered bonds) or at an authorized financial intermediary (bearer bonds), which are transmitted by simple transfer from account to account. - Inthe same issue, the bonds confer the same debt rights for the same par value. If | buy a bond o anominal value of 1$ .. - The bonds of the same issue, issued in series, are identical and interchangeable with each other and confer on their holder a fraction of the same right of claim over the company. - Unlike shares, they give no political right in the management of the Corporation. - The bondholders are grouped together in a mass in charge of the defense of their common interests, acting according to a majority principle. - There is no legal or regulatory requirement for minimum or maximum maturity for bonds, which may even be perpetual. Private companies have been allowed to issue bonds only in 2004. Bonds cannot be offered to the public but only to specific professional lenders, so not public, usually to banks (=Italy) Public Companies : - Requirements: no unpaid capital: the issue of bonds is only possible if the share capital is fully paid up. Balance sheet of last 2 years must have been approved by Shareholders 61 22/10/2020 THE ORGANS OF A COMPANY Y Corporate governance The term “corporate governance” means the "system of rules according to which companies are managed and controlled“: - Power to decide —> power to make decisions regarding the improvement of the organization, or taking decision about the raise of capital... usually given to shareholders. Functioning of the company and structure of it - Power to manage —> BoD - Power to represent —> given to the managerial body so the board of directors. - Power to control (of legality and accounting) —> the control of legality so the respect of the law and the rules provided by the bylaws of all the bodies (sh. And BoD) and control of accounting Who are the actors of the corporate governance? So who has all these power? * stakeholder. bearers of interest widely understood * shareholders: those stakeholders who confer ownership capital and assume, first and foremost, the risk of the business; * the parties with the rights of control: i.e. who have the power to determine the financial and management policies of the company; + the subject-holders of the exercise of the control authority, i.e. the exercise of the management of the company (governance management), taking decisions and directing the company management. The aim of an effective system of governance bodies is that of working on creating value (wealth) for the entire company system : Shareholders Stakeholders: environment, customers, providers, workers We have different functions : 1. the Ownership held in the capital assumes, first of all, the risk of the business activity. 2. Management: regarding strategic decisions, consistent with the general guidelines, data required by the control authority. Usually by BoD 3. Coordination: is the activity aimed at conferring unity and directional behavior. Usually given to the chairman of BoD or the executive management 4. Control (internal and external) intended as the supervision of the choices concerning management We have two different general models in the corporate governance : Us model - outsider model the market has a really important role in the corporate governance of a company, so the market can do a lot to improve the performances. The market is the instrument for controlling operations: transparency of information addressed to the outside. Relation between shareholders and management —> agency problem. There are a lot of rules to overcome the risk of giving too much power to shareholders Manager must create value for shareholders. The presence of an efficient financial market allows for a control over the manager: any sub- optimal management would be sanctioned through the acquisition of the company and the subsequent removal of the inefficient manager. In order for this to be realized, itis necessary to have: |. an efficient financial market 64 ll. a fragmented ownership of the company (to allow a company acquisition). In us is easier to buy a company because we don't have controlling shareholders, as there are more shareholders that also have 1% of the capital. You don’t have to deal with a controlling shareholder that for ex has the 50% of the capital. In Europe we have a closer ownership. The market (with the risk of a takeover) is a corporate governance tool because should make management act as his best, since, if inefficient, is removed and replaced by better management of the company. The ownership is widespread and absent. It's not easy to make decisions together, shareholders are so many that they don’t even attend the meetings, they just expect the profits US, UK, Canada, Australia G . _insi Relationship between stakeholders and management. In some cases also employees have the right of management. Here market is not believed to be so efficient, less trust in the market Firms listed on the stock market do not have a significant role in the economy as, on the other hand, occurs in the United States The few listed companies used to have small group of controlling shareholders that very closely supervise the corporate activities. Usually shareholders have more than 50% of capital. The takeover is not so easy as in the us. Control of the management is carried out by the financial intermediaries, thanks to the concentration of the debt. the ownership is present Latin model: France, Spain, Italy, Portugal, Belgium Greece Japanese Rhenish model: Germany, Austria, Scandinavian countries, Japan The corporate governance model can be structured in three ways: > traditional system : which provides for an assembly of members of the Board of Directors and the board of statutory auditors (i) Shareholders — assembly/general meetings (ii) Board of Directors (iii) Board of Statutory Auditors » two tier board system (dualistic - German derivation) : which provides for the supervisory board, appointed by the reference shareholder, who appoints the management board at the same time. The management board is appointed by the supervisory board (i) Shareholders — assembly/general meetings (ii) Supervisory board: appointed by the Shareholders (iii) Management board: appointed by the Supervisory board » One tier system (monistic of Anglo-Saxon derivation): which provides for a model of administration that is essentially the same as the traditional one: the main difference consists in the elimination of the board of statutory auditors. The supervisory board is not separate, is appointed in the administrative one so the management board has in it the bodies who control over the management (i) Shareholders — assembly/general meetings (ii) Management board: appointed by the Shareholders — members who are in charge of control 65 In general : Power to decide: Shareholders — assembly/general meetings Power to manage/to represent: Management board Power to control (of legality and accounting): Auditors SHAREHOLDERS Shareholders adopt resolutions through: * Meetings —> general principle, they will discuss their problems through meetings * or through written consultation —> a rule of the law or possibility provided by the bylaws In some Countries: if the Bylaws does not provide for the method of written consultation or consent expressed in writing, the decisions of the shareholders are adopted according to the collegial method, therefore through a shareholders’ resolution (meetings) ASSEMBLY of SHAREHOLDERS 1. Calling of meeting Who is in charge to call the meeting, and how. It is the act by which the shareholders are informed of the need to set up the assembly in order to take the decisions for the conduct of the company. The ordinary shareholders' meeting must be convened at least once a year, for any type of corporation private or public. After the close of the financial year, to discuss the financial statements of the previous year. Normally called by the administrative body, so BoD. Also other bodies could call the meeting in some specific cases : * board of statutory auditors/supervisory board/ management control committee (attention to the issue of directors' responsibility). Come into action only because the BoD didn't do it * court « Liquidator —> in case the company has already decided to stop the business * Shareholders who represent at least a percentage of the share capital, have the right to ask the directors to call the meeting. In this case, they must also indicate the items on the agenda. Usually is not an individual right, given to a class of share. The meeting is usually called where the company has the office, but if the bylaws states another place, for ex the office of legal advisor or notary. They may also be taken via audio or video, the bylaws must provide it. In closed Companies the method is by sending an email or letter—> sent by means that guarantee proof of receipt, usually at least 8 days before the meeting It seems unclear whether the 8-day deadline refers to shipping or receipt; the prevailing orientation believes that reference should be made to the shipment. As a matter of prudence, we can refer to reception. So the better way is that shareholders must receive it at least 8 days before it. This period of time is useful to let the shareholders inform themselves All the shareholders that have the right to vote, but also other person can participate for ex the board of directors and the board of statutory auditors. So the letter must be sent also to them The letter must contain: - Indication of the day, time and place of the meeting. - List of subjects to be dealt with (agenda) —> this agenda is not mandatory, in the meeting they could discuss other topics but all the shareholders must agree (unanimous consent) - The indication of the topics must not be generic or excessively specific; the purpose is to adequately inform the shareholders. - The agenda can be freely changed by the assembly. 66 23/10/2020 We can have Ordinary or extraordinary meeting : The shareholders’ meeting is traditionally separated into an ordinary and an extraordinary shareholders’ meetingIn both we have the participation of the same person that participate to the shareholder meeting. The difference is in the decision making process, we have different quorums, depending on the importance of the topic at issue. If the topic is ordinary then we have an ordinary meeting, if is something new and important we will have an extraordinary meeting Ordinary: decisions related to ordinary functioning of the company - the approval of annual accounts; - the resolution upon the dividends, if sh. Want dividend or want to keep them in the company - the appointment/removal of BoD; - the approval of related parties agreements, the company for ex wants to buy an office if the party selling the office is a related party of a manager, then we will need the approval of all shareholders to do it. Just a check to see if there is a risk of conflict of interest Extraordinary: decision pertaining to key organizational issues. - the amendments of the company Bylaws, the quorum here must be higher We call general meeting the meetings that have all shareholders, that then can be ordinary or extraordinary There are specific shareholders meeting bringing together holders of specific classes of shares, Special Shareholders Meetings —>They are called when a decision regarding amendments to the rights of the relevant category of shares is taken by the general shareholders meeting. The resolution (so the modification of the rights of the class of shares) becomes final only after the approval by the specific shareholders’ meeting, they have a final say only on the changes made on the specific category of their shares. Their vote in necessary only when the decision of the general meeting interferes with the category of specific shares. The right to vote can be abusively exercised. Depending on the circumstances, the voting might materialize an abuse of majority or of minority. Abuse of majority: It is when it is evidenced that a collective decision was taken not in the best interest of the company but only to favor the majority shareholder (% more capital) to the detriment of minority shareholders, so negative consequence on minority shareholders. This will be the case, for, when the company decides, systematically, to retain profits, instead of sharing profits to shareholders the majority shareholders decide to retain them, in this case the minority won't see any profit for many years. The corporate interest is harmed by the collective decision and the majority shareholder, directly or indirectly, are favored. An abuse of majority may be sanctioned, in court, following an action brought by the minority shareholder or the company itself —> The resolution is declared invalid. If the annulment of the decision does not cover the damages suffered by the plaintiff, he can also receive damages. —> further protection, if you suffer a damage and this damage is not covered then the minority can ask for the compensation Abuse of minority: Minority shareholders may also engage in an abusive use of their voting rights, for ex. when they can prevent the adoption of a collective decision, which may be very important for continuity of the company. A minority abuse of voting rights requires that the minority shareholders have prevented the adoption of a resolution essential for the company only to favor their own interest to the detriment of the other shareholders. That might be the case when opposing a needed capital increase resolution, for ex they want to increase the capital because the company has a lot of losses, this resolution is essential. If the minority shareholders starts opposing a consequence could be the end of the company 69 An abuse of minority may be sanctioned, in court, following an action brought by the majority shareholder or the company itself —> The resolution is usually NOT declared invalid, as usually involves the increase in capital, there is no need of invalidity, it doesn't have any negative effect. While the minority shareholder is liable to both the Company and the other shareholders if they can argue having suffered a personal damage The terms “shareholders’ agreement” refers to a contract entered into by some or all the shareholders of a given company in order to govern their relationship during the time when they are shareholders together (¢.g.: requiring a shareholder to vote accordingly with the agreed provisions). The shareholders usually take agreements on how they will vote on some resolution or on how they will decide regarding the appointment of a general manager... so they are agreements made by some or all shareholders that are not contained in the bylaws, so this contract is mandatory only for the persons that signed this agreement. For ex in the agreement they decide that they will vote against any increase of capital, if one of the two parties of the agreement involved doesn't follow the agreement —> the final resolution of the sh. Meeting is still valid. The non-fulfillment of an agreement does not involve the whole company, the damages are just between the parties involved. Such agreements falling into the contract category, their validity are govemed by the common contract law provision. According to case law, shareholders’ agreement are valid as long as they are notin breach of a fundamental “public policy” rule or of a mandatory rule provided for in the by- laws or that contradict the corporate interest. » Binding nature and enforcement Only the signatories of the shareholders’ agreement are committed by its provisions, so only the parties that signed are bound by the contract. Third parties may not be concermed, but they have the possibility to oppose the agreements to the signatories, so if the agreement goes against some rules. > Disclosure of shareholders’ agreement (financial market regulation) Confidentiality of the shareholders’ agreement, since it is a contract, is one of its advantages. However, in exceptional circumstances, the agreement must be disclosed, partially or in all. That is the case when the agreement governs shares of listed companies. FRANCE - THE SHAREHOLDERS ASSEMBLY PRIVATE COMPANY : Shareholders adopt resolutions through : - Meetings - or through written consultation —> easier for private company as they don't have a widely spread ownership The shareholders has the right to vote on: (i) The approval of Co's account, only through Sh.’s Meeting here we cannot use the written consultation (ii) Main decisions on life of Co. (eg: amendments of charter, transfer of company in another city) Only one share one vote. PuBLic COMPANY : Shareholders adopt resolutions through meetings No power of management —> all the decisions that could interact with management are only made by BoD The shareholders has the right to vote on: ordinary resolution (simple majority) - Appointment/removal of Ds, of members of BoS; - removal of Executive Directors; 70 - approval of accounts; - apportionment of profits extraordinary resolution (supermajority, higher than the simple one) - Amendment of articles Calling of the meeting Meeting to be called by BoD. In the alternative, others may have the power to convene the shareholders’ meeting as, for example: the auditor, but only in the case of the failing of the body normally entrusted with the duty to convene the meeting; by a court appointed representative: this right is reserved only to shareholder who hold at least 5% of the capital: in some, rare, instances, the majority shareholders have the power to convene directly a shareholders’ meeting only in specific cases : after a public take-over offer or after the sale of the “controlling block” of shares. A shareholders’ meeting made by a person lacking the legal power to do so, may be annulled. Agenda fixing The person that calls the shareholders’ meeting is the one that determines and decides on the agenda of the meeting, this is admitted as a general principle. One or more shareholders, when they hold at least 5 % of the capital, may require that specific items be put into the agenda. The shareholder has the right, 4 working days at the latest before the shareholders’ meeting, to submit written questions to the board of directors (or the managing board) that must be answered during the meeting. Representation of shareholders —> a shareholder that is a natural person may be represented by another shareholder. He has to give a written proxy One share one vote, but ok double voting rights they can be granted for members holding their shares for at least 2 years (registered shares). If you have owned the share for 2 years then, if the meeting gives you the right, you can have the double voting right. If the double-voting rights shares are sold or converted into a bearer share, the double-voting privilege is cancelled. This is a privilege that is given to shareholders that trust the company Conducting the meeting For each assembly an attendance list annexing the proxy powers must be drawn. Failure to do so results in the nullity of the resolutions adopted at that meeting. The objective assigned to the attendance list is to identify the shareholders that attended in person, those represented (having given a proxy) as well as those having voted from a distance. Meeting secretariat Asecretariat is mandatory organized for each general meeting, and must be composed of a chairperson (president), two scrutineers and a secretary. The two scrutineers are the two shareholders holding the largest number of votes and accepting to perform the function; if they refuse, then it is the next shareholder holding the most votes, and so on. Invalidity and ratification of shareholders’ meeting resolutions As a matter of general principle, French law strives to limit the invalidity possibilities in company law and of corporate bodies’ deliberations. The commercial code : “The invalidity of a company or the annulment of an instrument amending the by-laws may result only from an express provision (of the code) or from the acts governing the rescission of contracts. (...) The annulment of acts or deliberations other than those specified in the above paragraph may result only from the breach of a mandatory provision (of the code) or in the laws governing contracts”. Invalidity only if there is the breach of a mandatory provision. The judge has to nullify the shareholders’ meeting if, for e.x.: - The agenda does not state the points of discussion and the corresponding resolutions, 71 27/10/2020 ITALY PRIVATE COMPANY : Shareholders’ Meeting of SRL Art. 2479 Italian Civil Code The shareholders decide on the matters reserved to their competence by the deed of incorporation, as well as on the matters that one or more directors or many shareholders representing at least 1/3 of the share capital submit for their approval. In any case, the following are reserved to the competence of the shareholders: 1) Approval of the financial statements and distribution of profits. 2) The appointment, if provided for in the articles of association, of the directors. 3) The appointment in the cases provided for by article 2477 of the statutory auditors and of the chairman of the board of statutory auditors or of the person in charge of carrying out the legal audit of the accounts. (in an srl, statutory auditors is mandatory only if we exceed some requirements). 4) Amendments to the articles of association. 5) The decision to carry out operations that involve a substantial modification of the corporate purpose determined in the deed of incorporation OR a significant modification of the shareholders’ rights. The deed of incorporation may provide that the decisions of the shareholders are adopted by written consultation or on the basis of the consent expressed in writing. In this case, the documents signed by the shareholders must clearly show the subject matter of the decision and the consent to the same. Resolutions by: - the General Meeting - orin writing. Resolutions by: The decisions of the shareholders must be adopted by means of a shareholders' resolution (General Meeting) when: - With reference to the matters indicated in numbers: + (4) amendments to the articles of association. + (5) the decision to carry out operations that involve a substantial modification of the corporate purpose determined in the deed of incorporation or a significant modification of the shareholders’ rights. As well as in the case provided for by the fourth paragraph of article 2482 bis (decrease of the capital_for losses) —> the BoD has convene the meeting of the shareholders to decide what to do —>no written vote is admitted. When require one or more directors or a number of shareholders representing at least 1/3 third of the share capital. Each shareholder has the right to participate in the decisions provided for in this article and his vote is valid in proportion to his participation (i.e | am quota holder having 10% share capital, my vote will count for the 10%). 74 + Unless otherwise specified in the articles of association, the decisions of the shareholders are taken with the favourable vote of a majority representing at least half of the share capital. Calling and representation - The deed of incorporation determines the methods of calling the shareholders' meeting, such as to ensure timely information on the topics to be discussed. Failing this, the convocation is made by registered letter sent to the shareholders at least eight days before the meeting at the address shown in the business register. - If the articles of association do not provide otherwise, the shareholder can be represented at the meeting and the relative documentation is kept in accordance with the provisions of article 2478, first paragraph, number 2. (i.e we can give a proxy to anybody —> no restrictions on representations). Invalid resolution (general rule applying for all invalid resolutions) The decisions of the shareholders that are not taken in accordance with the law or the articles of association can be challenged by: (i) The shareholders who did not allow it —> individual right: in srl itis an individual right to challenge the invalid resolution. (ii) By each director —> individual right. (iii) and by the board of statutory auditors —> must have the vote of the majority the members Within 90 days of their transcription in the shareholders’ decision book. Invalid resolution — Conflict of interest Decisions: (i) Taken with the decisive participation of shareholders who have, on their own behalf or on behalf of third parties, an interest in conflict with that of the company. The participation of shareholders who have the conflict of interest must be determinant for the resolution. (ii) that could cause damage to the company. In those cases, the resolution can be challenged in accordance with the previous slide (in 90 days by shareholders, directors or board of statutory auditors). Specific) decisions: (i) Having an illegal or impossible object (ii) and those taken in the absolute absence of information can be challenged: - By anyone who has an interest in them - Within 3 years from the transcription indicated in the first sentence of the first paragraph. (iii) that modify the corporate purpose by providing for impossible or illegal activities can be challenged without time limit. Srl Minority rights: - Derivative suit by each Shareholder against directors —> each shareholder has the right to sue any director if they prove they are not good directors. 75 - Right of inspection by each Shareholder of all documents of the company (different from spa) —> each shareholder has the right to look at and ask all the books of the company in order to inform myself about the development and activity of the corporation. - Right to file a court petition for removal of directors - Right of withdrawal from the company under certain circumstances: mandatory or optional. - Petition to court for judicial inspection (if you think directors are not working well) - Special rights to dividends and over management of the company to be provided by articles to individual Shareholders. PuBLic COMPANY : Shareholder’s meeting of SPA The General Meeting is convened in the municipality where the company is based (registered seat), unless the statute provides otherwise. The assembly is: - ordinary - or extraordinary. Ordinary shareholder’s meeting In companies without a supervisory board (traditional-monistic system), the ordinary shareholders’ meeting: 1) Approves the financial statements (once a year) 2) Appoints and dismisses the director; appoints the statutory auditors and the chairman of the board of statutory auditors and, when required, the person in charge of carrying out the statutory audit of the accounts. 3) Determines the remuneration of directors and statutory auditors, if not established by the articles of association (i.e how much they will get paid). 4) Deliberates on the responsibility of directors and auditors. 5) Deliberates on the other objects attributed by law to the competence of the assembly, as well as on any authorisations required by the articles of association for the performance of acts of the directors, without prejudice in any case to the responsibility of the directors for the acts performed - In ans.p.a, the management can be ruled only of the BoD. We cannot give any competence regarding the management to shareholders BUT there is a chance to have shareholder’s meeting saying something when the directors ask to express themselves on some authorisation on some operations - eg, | want to take a big operation, | am a director, so | am in charge of taking such operation (at a managerial level). Since it is so important | would like to have a say of the shareholder’s meeting because | want to hear what shareholders think about it. They have an authorisation about the operation. The general meeting will be convened and will discuss on the authorisation to give to the BoD. Even though we have an authorisation of the shareholder’s meeting, only directors will be responsible (liable for damages) for such operation (different from Germany — peculiarity of Italian system). 6) Approves any regulation of the meeting proceedings. + The ordinary assembly must be convened at least once a year, within the term established by the statute and in any case not exceeding 120 days from the end of the financial year. 76 can start such a lawsuit to have the resolution declared null and void (statute of bar of limitation: 3 years or none). + Freedom of vote of Shareholders and conflict of interest. Minority protection measures: Rights of: + Request the calling of a Shareholder’s meeting (requisition). + Request to add items to the agenda of a Shareholder’s Meeting (for listed company). + Various means of indirect attendance to Shareholder’s meeting. + Appointment of “minority” directors and auditors. + Challenge the validity of shareholder’s meetings; + Derivative suits against directors. + Petition to court for judicial inspection (art. 2409 c.c.) + Right of withdrawal from the company: mandatory cases, opt-in cases 79 29/10/2020 CORPORATION MANAGEMENT MANAGEMENT AND CONTROL OF COMPANIES Part of the corporate governance are also the rules that fix the functioning of the management body. Power to manage in corporation is divided between shareholders and delegated managers —> so sometimes also shareholders may take decisions. But there are specific divided competencies given to the two parties. Features which underlie corporate governance within the firm are: - investor ownership - and delegated management. The main problem of corporate governance was outlined 250 years ago, by Adam Smith : “The directors of such companies, however, being the managers rather of other people’s money than their own, it cannot well be expected that they should watch over it with the same anxious vigilance with which the partners in a private co-partney frequently watch their own... negligence and profusion, therefore, must always prevail, more or less, inthe management of the affairs of such a company’. ™ In corporation with separate ownership, so where investors do not take part in the management, you need some rules that help the shareholders control over the management, as the managers, not risking their money but of somebody else, may conduct the business risky. ™ This problem is called agency problem , we may find it : Directors (Ds) versus Sh —> directors will have to conduct the business in the best way for shareholders, but there is the problem that maybe they won't conduct it in the best interests as they are not risking their money But also between minority versus majority Sh, when Ds are strongly tied up to majority Sh. If minority shareholders don't have such link with directors that may have some problems. There are some rules that help avoid these problems, so for director to rule in the best way : Directors must be free to take management decisions, but there must be mechanisms of controlling ex ante and/or ex post their activity. We need directors that can take decision freely without having the risk to be kicked out any time, otherwise the company won't grow up. But also we need to protect shareholders from directors that do whatever they won't, this can be done by : - An ex ante control test = you think of what it was known by the directors at the moment they took the decision, and if in that moment the directors knew that it was not a good decision they can be liable - Oran ex post control test = all those rules that help us understand how the decision tumed out to be —> look at the consequence of the decision, if they are bad you need to use the business judgment rule —> the director has to be free to take decision which could be risky and the court cannot sanction the director just because this decision had negative consequences on the company, the court can sanction the director only if according to a test of his behavior you could say that he acted in a wrong way, so that at the moment of the decision he could have taken a better decision . (taken in consideration in all jurisdictions) Business judgment rule is used in court to decide if sanction directors, so is a safe guard for them Directors have duty of care and duty of loyalty. If you proof that you followed the two duties then you cannot be sanctioned Structure and functions of Board of Directors 1. Chairperson/President 2. Executive directors 3. Non executive In the bylaws/charter there will be the rules and all the functions related to each of them. If it doesn’t say anything the chairperson acts as agent and representative of the company. The Chairperson usually is vested with the general power to act as an agent/representative of the company. Often executive directors are vested with agency/representative powers to be able to 80 carry out the management decisions that they made within the scope of the management powers delegated to them. The executive directors and chairperson are the ones who work more closely with the company, so it's right to give them the agency power » Chairperson/President : ¢ Sets the agenda of meetings of BoD, * Calls meetings of BoD and shareholders —> this right can be shared also with executive directors (if the bylaws is silent) ¢ Directs the taking place of meetings of BoD, « Represents BoD towards other bodies of the company and third parties » Executive Director : They are delegated management powers by the non executive. They bring into action what has been decided in BoD meeting. » Non executive Director : they must monitor executives, they do not sign contracts... they have the right to be informed by the executive directors and itis also a duty for them to ask information —> as they have the duty to control and monitor executive directors, what they do. So they must ask for informations when they are not given or not enough. You could be liable for what has been done or not done by the executive directors FRANCE PRIVATE COMPANY , SARL : One or more managers/directors (gérants) placed under the control of the Shareholders. Directors must be natural persons, no legal persons. The appointment and removal is made by Shareholders. There is a limit of their power: the scope of the business, they cannot act outside of the scope or against it. Such restrictions are not binding on third parties in good faith —> a third party that has taken a contract with a manager, and the contract is outside the scope of the business, if you proof that you didn’t know, so in good faith, the third party is protected by the Law. Internally the manager will have some problems, but the contract will exist again. The manager will be liable against the other directors and the company. Control over management Shareholder has the power to control managers and has the power to approve the Company's accounts —> they will have the power to ask informations... Managers ' liability for infringement of the law/the articles, for negligent acts of mismanagement which cause damages to Co, Sh., third parties. Derivative suit of Sh. against managers is allowed. towards: - Company, - Shareholders , - third parties PUBLIC COMPANY : Two alternative systems of governance: > One-tier board (single board system - the “classical” structure): the classic monistic or unitary structure, typically French, with a board of directors and a chairman who may have the power to control the whole company, but without any intermediary control body between this senior management level and the rest of the shareholders. > Two-tiers model: the less common dualistic structure, inspired by German law, with a managing board (sole collegial management body) and a supervisory board (sole intermediary control body). This form tends to better for separate control of management. In this model, it is a collegial body, the managing board — which is, itself, controlled by the supervisory board — that manages the company (hence the two-tiers). Always distinction between management and control functions 81 30/10/2020 GERMANY PRIVATE COMPANY , GMBH : The GmbHG regulates by default a two-tier structure for the GmbH —> the managing director(s) and the general meeting of the shareholders Athree-tier structure that consists of Geschaftsfulhrer, supervisory board (Aufsichtsrat) and the meeting of Sh. is possible and sometimes even mandatory, if the GmbH exceeds certain statutory thresholds. However, a monistic structure, in which Geschaftsfuhrer, as well as shareholders, constitute one single organ, cannot be formed in a GmbH Management power usually apportioned between Sh. and Directors: “shareholder supremacy”, many powers can be given to shareholders, even managing ones. There is no rule in the GmbHG as to that the Directors are the only ones to have the competence to manage the GmbH. Often in a small GmbH Sh. are also managers and the two functions are mixed. Requirements — appointment - removal : Ds must be natural persons, we cannot have a legal person. The Ds. do not have to be themselves shareholders, you could also be shareholder but is not mandatory. They are appointed by the Sh.s and they might be removed from the office. This can happen either with or without cause (you don't need to explain why you want to remove him, in such a case: compensation) Board of Supervision (BoS) (statutory auditor) ABosS is mandatory when Co. has to putin place the co-determination system (when there are over 500 employees) —> some employees representatives are appointed to the BoS. So employee have some power also in the management of the company. There aren't many GmbH which must comply with the co-determination rule. If the BoS is mandatory, its powers are defined by the law: supervision of managers, who must report periodically to the BoS. PuBLic ComPANY - AG : Usually structured following the two tier board system (classic system here). The characteristic feature of the German AG is the so-called dual board structure. It consists of: (i) the management board (Vorstand) (ii) and the supervisory board (Aufsichtsrat. (iii) The third regular organ of the company is the general meeting of the shareholders. Always present anywhere. There is no unitary board of directors, consisting of executive directors and nonexecutive directors(#france). The company is run by the management board, while the supervisory board is just charged with appointing, advising, supervising and dismissing the members of the management board. —> here the shareholders appoint the members of the supervisory board, then the members of supervisory board decide the managers of the company (#France). If the workforce of the AG exceeds certain thresholds, the company will become subject to German co-determination laws. and the supervisory board will have a mandatory number of employee representatives. The management board is governing the company according to its own discretion —> Only the management board can decide what to do and how. The guideline is the interest of the company. The management board is not subject to directions by the general meeting nor by the supervisory board. Nor can the directors be dismissed “ad nutum” (without causes), neither by the general meeting nor by the supervisory board. Rather, dismissal of a director requires a good cause. Therefore, unlike in the GmbH, the shareholder meeting cannot be viewed as the supreme organ of the company. 84 The shareholders are not the “Lords” of the company, but only of the articles but as said, in Germany, unlike in the US, the shareholders are competent for all capital measures. This is because the amount of the company’s legal capital is part of the articles. Thus, any changes of the legal capital automatically amend the articles and require the according procedure, namely a special resolution with qualified majority of shareholders. Since most important business decisions, like going public or takeovers of targets, are linked to capital increases, the shareholders have an ultimate vote on them. THE MANAGEMENT BOARD : The Vorstand is the governing body of the company. It has (almost) unrestricted powers to conduct the business of the company (and to bind the company towards third parties. The Vorstand of an AG may consist of 1 or more persons. The Aktiengesetz contains no binding specification of the number of directors, no maximum number of directors, the bylaws can decide how many directors. Only for companies with a share capital of more than 3million euros the management board must be formed by no less than 2 members. But it's possible to waive the requirement via the articles of association, so it's still a default rule. Composition : Due to the dual board system with its strict functional separation of management and supervision, there will not be any independent, non-executive directors on the management board. All the managers are managing directors only. Appointment : The supervisory board appoints the members of the management board. In exceptional cases of necessity, the member can also be appointed by a court Requirements : The director must be a natural person of full legal capacity — Minors are not permitted — Legal persons cannot serve on the corporate boards of the AG Duration. the members of the management board are appointed for a period of not more than 5 years. Itis possible a reappointment or extension of the office period for a further term of five years Dismissal : The appointment can be revoked, i.e. the director dismissed. The dismissal is only possible for good cause —> an important safeguard of management autonomy. “Good causes” can be found in material breaches of duty, but also in economic failure and in the consequent loss of trust by the market/the investors, you have to prove the link between the loss and the cause. The competence for the dismissal lies with the supervisory board (BoS). The shareholders in general meeting have no say in the matter, cannot appoint or dismiss. The dismissal requires a decision of the complete supervisory board, It cannot be delegated to a committee. Remuneration : the remuneration as a whole (including bonuses, stock options, insurance etc.) has to be appropriate in relation to: - the tasks and achievements of the board member - the situation of the company, so in case of a deterioration the BoS can reduce the remuneration — In the case of a subsequent deterioration of the economic situation of the company, the supervisory board must reduce the remuneration Powers: The Vorstand is charged with running the company according to its own discretion : “The management board shall conduct the business of the company under its own responsibility.” It has to conduct the company’s affairs, pithing the scope of the company and represent the company 85 vis-a-vis third parties. Management decisions are taken in board meetings, typically under a majority rule if the articles so provide As a consequence neither for the supervisory board nor for the shareholders’ meeting have the right to issue binding instructions or directions to the management board. This marks a decisive difference to the situation in a GmbH, where the directors are subject to the instructions given by the shareholder meeting. The autonomy of the members of the management board is additionally safeguarded by the fact that they can only be dismissed for good cause. Consent by the supervisory board —> The conduct of the company’s affairs cannot be delegated to the supervisory board. However, certain types of transactions and management decisions must be subject to the (prior) consent of the supervisory board. This rule was designed to increase the involvement of the supervisory board in essential business matters. - The veto right does not shift the competence to run the company from the management board to the supervisory board. The management board remains exclusively responsible to execute the respective measures. - WHEN? The law does not specify which matters are subject to consent. The catalogue can be established: either by the shareholders via the articles (written in the bylaws) or by decision of the supervisory board. But it must be drawn up and cannot be omitted. Power to represent The AktG generally attributes the power to bind the company to the Vorstand. The powers to bind the company cannot be restricted. Therefore, even transactions undertaken by the management board exceeding the limits set by the objects lead to the company being bound towards the involved third parties. (common rule for all European countries) » The fiduciary duties = a director has to act with the care of an “orderly and conscientious business manager” in handling the affairs of the company, the management has to fulfill the managerial activity in the best effort, so by being the best managers they can. The provision codifies both the existence of: - the duty of care - and the duty of loyalty » Business judgement rule =“There is no breach of duty, if the director, when taking a managerial decision, could reasonably assume to have acted, on the basis of appropriate information, for the benefit of the company.” If you acted in the best way then you are safe, so if you prove that you fulfilled the duty of care and duty of loyalty you cannot be liable. Important safeguard for the managers » Specific duties =Besides those general duties, there are numerous explicit duties for example: - The management board must regularly report to the supervisory board - The management board must answer to the shareholders in general meeting - The management board must keep the company’s books and prepare the annual accounts for the audit - The management board must inform the general meeting in the case of a loss of half of the company's subscribed capital » Liability claims = If the managing directors breach their duties or one of the specific provisions, and there is proof —> they will be liable for damages. It should be noted that managing directors cannot escape liability merely by dissenting in the board resolution, you always have to prove —>They have the option to go to Court and have the nullity of the resolution declared, so dissenting from the wrong decision made by the other director to not be liable. Under the dual board structure of the German stock corporation, the competence to sue the board lies with the supervisory board. Unlike in the US, there are no derivate actions in Germany. Individual shareholders have no right to sue the company. Instead, the German legislator has introduced collective action procedures for a minority exceeding certain thresholds to initiate proceedings. 86 Requirements To become directors there are some requirements —> Individuals who are prohibited, incapacitated, bankrupt or sentenced to a penalty that involves the prohibition, even temporary, from holding public office or incapacity to exercise executive functions may not be appointed director. The Articles of Association may, also, subject the office of director to the possession of special requirements. Duration Directors remain in office for a maximum term of 3 financial years, expiring on the date of the shareholders’ meeting or supervisory board meeting called to approve the financial statements for the last year of their office. Unless otherwise provided by the articles of association, they can be re- elected. There may be the so-called_simul stabunt simul cadent clause: if there is one or more director that terminate their mandate because they die... then the termination of this person can determine the termination of the entire BoD. This clause when it is very important to have a strong and united BoD. Remuneration Determination of the compensation owing to members of the board of directors or executive committee is established upon appointment or by the shareholders’ meeting. It may be wholly or partly comprised of profits or assignment of the right to purchase future shares at a specific price (stock options). Remuneration of directors holding special offices in accordance with the articles of association is established by the board of directors, after consulting with the board of Statutory auditors. If envisaged by the articles of association, the shareholders’ meeting off ces. Conflict of interest : - directors must disclose any interest they have in relation to any resolution submitted to the BoD for approval; - executive directors must abstain from participating in any decision in conflict of interest; - non executive directors must disclose their position and could still vote, but the Board must specify which are the reasons which make that resolution profitable for the company. the BoD resolution is voidable if: (i) the vote of the Director in conflict of interest was essential to the passing of the resolution (ii) and if the resolution might cause prejudice to the company (iii) and/or if the reasons for the resolution were not declared by the BoD and recorded in the minutes of the meeting. the Directors in conflict of interest which have not complied with this procedure are liable to the company for any damages it might suffer 222? Liability: Directors are liable to the Company for any damages caused by their breach of duties set out by the law and the articles of associations — breach of specific rules and breach of the general duty to manage the Company by applying professional care (high standard); (apply the business judgment rule) — directors are not held liable for losses suffered by the Company in the absence of breaches of their duties (BUR) Decision to start a liability suit : - Decided by an ordinary Shareholders’ Meetings, if they want to sue a director or not. - minority suits by Sh: only shareholders holding at least 1/5 (2.5% for widely-held Co) of capital are entitled to sue. Problem: lack of information and cost. (not very used) 89 Petition to the court for judicial inspection — serious misconduct in management and control by court. Also creditors can sue the Directors, in the event that the company is insolvent and directors have breached rules aimed at protecting the integrity of the company's assets. This type of lawsuits is usually brought about within bankruptcy proceedings by the trustees in bankruptcy. 3/11/2020 USA CORPORATION MANAGEMENT Structure US public companies predominantly have a unitary board structure —> one tier board. "the business and affairs of every corporation...shall be managed by or under the direction of a board of directors, except as may be otherwise provided ... in its certificate of incorporation." The board generally delegates the day-to-day operation of the business to the chief executive officer (CEO) and other senior executives. The board provides oversight of management DIRECTORS Appointment First Directors to be appointed in the charters or by the incorporators. The following ones are elected by Shareholders at the annual Sh.Meeting There is the possibility in the bylaws for the BoD to elect directors to fill board vacancies and newly created directorships. Requirements Only individuals so natural persons can be appointed as directors, no legal persons. Employees are not entitled to board representation. AGE: Delaware law does not impose an age requirement on directors. However, some company bye-laws fix at age 75 the limit. State corporate law does not impose nationality or residency requirements on directors. Also foreigner could be directors, you don’t have to be a US citizen Independent director The figure of the independent director was born and developed in US. The NYSE and Nasdaq listing rules require that a majority of directors be independent. Under NYSE listing rules, for a director to qualify as "independent," the board must affirmatively determine that the director has no material relationship with the company including relationships that are (among others): Commercial, Industrial, Banking, Consulting-Legal, Accounting, Familiar. | cannot become director if | have somehow a relationship.In applying the independence criteria, an individual who has had a relationship as described above within the past three years cannot be considered independent. e.g. Adirector cannot be considered independent if he or she is an employee of the listed company or is an immediate family member of an executive officer of the listed company Requirements Diversity - Boards of US public companies are not generally subject to gender quotas. - However, in 2018, a California law was enacted that required California-based publicly held domestic or foreign corporations to have at least one female director by the end of 2019, and (depending on board size) increase to three female directors by the end of 2021. - Similar legislation has been proposed in Hawaii, Massachusetts, New Jersey and Washington. - The SEC rules require companies to disclose whether and (if so) how the nominating committee considers diversity in identifying director nominees, and if a diversity policy exists also requires a company to disclose such a policy. 90 Number of Ds The Delaware General Corporation Law (DGCL) requires that the board consist of one or more members. The number of directors is set by the corporation's certificate of incorporation or by-laws. Typically, the by-laws will specify a range and the board will fix the exact number of directors by resolution. Duration A staggered board of directors (also known as a classified board) is a board that is made up of if tdi ith diff : " Staggered board terms are structured by the company and commonly include three classes of directors. The staggering of classes can be done simply to assign staggering service terms, or it may involve more detailed provisions and responsibilities for each class. Elections for the directors of staggered boards occur as terms expire. At each election, shareholders are asked to vote to fill whatever positions of the board that are vacant or up for reelection. Removal Shareholders generally have the right to remove directors with or without cause. However, where the board is classified, shareholders can only remove directors with cause (unless the certificate of incorporation provides otherwise). Directors can also be removed via judicial proceedings Organization of BoD Committees in the BoD - ABoD can set up committees to be advised on managerial matters. - MBCA and statutes allow BoD to delegate any power to committees, with some exceptions. MBCA provides for some non-delegable matters (eg: amendments of by-laws; authorize distributions to Sh.). - Routine committees in public Co.: audit, compensation, nomination 22? Fiduciary duties - Care, good faith, loyalty. vy Duty of care: making the most effort you can to be the best manager. To give appropriate consideration to the issues which must be decided upon; standard of care: the one that a “person in a like position would reasonably believe appropriate under the circumstances”. You don't have to avoid risks —not the care of any prudent person. The duty of care is different from being prudent —it applies to the process by which Ds make decisions and to their monitoring of the other D's activities. It applies to the making decision activities but also in the monitoring of the other directors —> you have to apply the duty of care also by monitoring others EX: In Francis v. United Jersey Bank (NJ 1981), the court stated: “Generally, directors are accorded broad immunity and are not insurers of corporate activities...... Directorial management does not require a detailed inspection of day-to-day activities, but rather a general monitoring of corporate affairs and policies...” The case between Francis v. United Jersey Bank involves director who neglectfully failed to discharge her responsibilities of basic knowledge and supervision of the business. The court held the director liable as her negligence is deemed a proximate cause of the loss. - You don't have to become an inspector of the company and take information regarding everything, you have to take the best information you need. In this case the director didn't apply the duty of care in monitoring. So it has been sanctioned Are Directors liable also for lack of monitoring the acts of officers and workers? YES. - “In re Caremark Int'l Inc. Derivative Litigation case (Del. Ch. 1996)” Facts: the shareholders of Caremark International, Inc. brought a derivative action before the Delaware Court of 91 6/11/2020 CORPORATION INTERNAL AND EXTERNAL CONTROLS Management and Control of Companies The main problem of corporate governance was outlined 250 years ago: “The directors of such companies, however, being the managers rather of other people’s money than their own, it cannot well be expected that they should watch over it with the same anxious vigilance with which the partners in a private co-partney frequently watch their own... negligence and profusion, therefore, must always prevail, more or less, in the management of the affairs of such a company”. Potential agency problems: Agency problem used to focus attention between director (power to manage) and shareholders (power to make decisions about the structure of company) , directors have to take into interest the shareholders interests. But also agency problem of minority versus majority Sh, when Ds are strongly tied up to majority Sh. —> The mechanism of internal and external control fixes the agency problems An important way to fix the agency problems —> through the rules dealing with the system of governance of companies: directors must be free to take management decisions, but there must be mechanisms of controlling ex ante and/or ex post their activity. They are in place in all jurisdictions CONTROL the systematic measures (such as reviews, checks and balances, methods and procedures) instituted by an organization to achieve these objects : - conduct its business in an orderly and efficient manner, the procedure that the company has to follow to be competitive - safeguard its assets and resources, control if the managers are safeguarding the assets of the company - deter and detect errors and fraud , these measures should help find errors and frauds of directors and also employees - ensure accuracy and completeness of its accounting data, one main task that the body that controls the management has to do is to look and control at the accounting data. The controlling body will have to check the accuracy and completeness of it - produce reliable and timely financial and management information, there will be more reports to have more informations - and ensure adherence to its policies and plans, they will have to ensure the adherence of what they do Anytime there is power there will be LIABILITY if the power is used in bad way —> the controlling body have a more limited responsibility than directors, as they are not involved in the management of the company, they don't take decisions about the company but they just control that the decisions are taken in the best way, but: - From a civil point of view, they are responsible for of lack of diligence in the oversight of the Management Board —> if they never ask information about the actions... then they could be civil liable as they lack the diligence in the oversight of management board - They may be sued on criminal grounds as accomplices of the Management Board —> if some Fraud or criminal offense is made by the management board. Criminal liability 94 FRANCE Public Company Two alternative systems of governance: ¢ One-tier board (single board system - the “classical” structure): the classic monistic or unitary structure, typically French, with a board of directors and a chairman who may or may not also be the managing director, but without any intermediary control body between this senior management level and the rest of the shareholders. It Does not have an external body that supervises the management body ¢ Two-tiers model: the less common dualistic structure, inspired by German law, with a managing board (sole collegial management body) and a supervisory board (sole intermediary control body). This form tends to better separate control and management. In this model, it is a collegial body, the managing board — which is, itself, controlled by the supervisory board — that manages the company (hence the two-tiers). Always distinction between management and control functions. The two-tier model : THE SUPERVISORY BOARD The two-tier system was introduced into the French law in 1966. In practice, this system has received a limited application. It separates the managing function attributed to: the members of the Management Board the members of the Supervisory Board. The rules applicable to Supervisory Board members do not differ from those applicable to Directors with two major exceptions. Members of the Supervisory Board : * may not be members of the Management Board * may be employees of the company, up to a maximum of 1/3 of the Board. Duties : The supervisory Board exercises permanent oversight on the Management Board. It may operate any verification it judges appropriate and request any document it feels necessary. It : - examines the quarterly report issued by the Management Board and presents to the Sh. Meeting its observations on the Management Board's report and the annual accounts; - nominates the members of the Management Board, - approves related-parties transactions and guarantees given by the Company. If there are transaction with related parties then there is the need of the approval of the supervisory board - controls the annual accounts prepared by the Management Board and prepares the governance report. (made once a year regarding how the management acted in the company) Powers of the supervisory board : The Supervisory Board is not entitled to dismiss the members of the Management Board. This is a prerogative of the Sh. Meeting, unless the contrary has been provided by the company by-laws. If decided, the dismissal has to be motivated by just reasons. The Supervisory Board may use the derivative action as well as the Board of Directors. They can sue directors but they also have the power to intervene in the shareholders meeting and say what they have found about directors. The statutory auditors Under French company law, auditor always been considered as organs of the company and not mere outside service s have suppliers Appointment of the auditors : Auditors may be physical persons or audit firms. They are appointed for six years. Specific reappointment rules apply to PIE’s (small company) auditors : - The annual accounts may not be signed by the same physical person more than six years 95 - The same firm may not be appointed auditor for a period longer than 24 years. Auditors are appointed by the Sh. Meeting : - when the company issues consolidated accounts, at least two separate auditors have to be appointed. - Inthe case of a PIE, the Board has to submit at least two candidates for each auditor to the Sh. Meeting. Termination of their functions : Auditors may resign for legitimate reasons: health, impossibility to discharge their duties. They may be recused before the Court by shareholders and other stakeholders during 30 days after the date of their nomination. They may be revoked by the Court upon a complaint by shareholders or other stakeholders (same as for recusation). Their engagement will also be suspended or terminated in case of time suspension or radiation from the auditing profession. The auditors’ duties : The auditors’ principal duty is to audit the accounts of the company according to the auditing standards and issue an opinion on these accounts. They have to check if the directors prepared the counts following the accounting standards. (cost principle for the basic accounting standard, asset has to be registered at the amount spent at the moment to acquire it, so that will be the value recorded even if we add value to it. Then there is the fair value principle where we register the asset at the current value or the one we can sell it for). Before the audit reform of 2016, the audit report used to be a short form opinion where the statutory auditor confirmed whether the annual accounts gave a regular and fair view of the results and the financial position of the audited entity. It should also confirm that the annual accounts were consistent with the management report. So the report has to be wider as they have to justify the assessment The opinion written in the audit report could be: - Unqualified (absence of any reservation) - Qualified (the accounts are not fair on specific items, specify the problem related to specific items) - Adverse (the accounts are not fair) - Denied (unable to deliver an opinion, not possible for the auditors to make an opinion, usually when there is a lack of informations). Other duties: The auditors also have to: - issue reports on transactions leading to an increase/decrease of the share capital if these transactions are not opened to all existing shareholders - issue a report on the report prepared by the Board on internal control - issue a report on related-parties transactions - intervene when the company falls in a pre-insolvency situation - disclose to the criminal prosecutor, any breach of law committed by officers of the company, - convene the AGM if he thinks that the Board of Directors or the Management Board has been negligent. The auditors’ powers The statutory auditors should not interfere with management, no power in the management. Within this limit, they have at any time, access to all persons, systems and documents and can get copy of any document. These powers are extended to all subsidiaries and companies included in the consolidated accounts (financial statements made on the group basis, so made by groups). They can question third parties but have no right to impose them to reply unless they have been empowered to do so by a Court decision. 96 . When the economic situation of the company worsens, the supervisory board has to intensify its monitoring activity. The latter has to go beyond the examination of the directors’ reports given that there is the danger of too optimistic reporting by the directors. Depending on the precise economic state of the company, the supervisory board has to engage in: - supportive monitoring: by requiring additional reports and by requesting supervisory board approval for certain operations; - or formative monitoring: includes analyzing the situation and considering measures to safeguard the existence of the company (decides to replace the directors) Liability of Internal Control Bodies If members of the supervisory board neglect their duties, they may be sanctioned in a number of ways : - discharge may be refused, - they may be removed - and they may be held liable (asked by shareholders). As far as the latter sanctioning mechanism is concerned, two situations have to be distinguished —> The members of the supervisory board may be liable towards their company as well as towards third parties Extemal Control Mechanism The statutory audit is the most prominent external control mechanism. The supervisory board which instructs the auditor as to the annual financial statements and consolidated financial statements. 99 10/11/2020 ITALY Corporations Internal and external controls C io Si It is the internal control body which is expected to oversee, control function in both private and public company. It makes controls internally in the company (1) Ithas to oversee the compliance: + with the law * and with the by-laws, * as well as with proper management principles (II) and, in particular, the adequacy of organizational and internal control structure of the company. They have to verify if the management is following the structure of the company SRL - Private company : it is an optional body for most Italian srl, and not even so common - the obligation of the presence of the board of statutory auditors is triggered only in the event of exceeding certain thresholds, which has changed many times : It is mandatory when the company: Y is required to prepare the consolidated financial statements of all the companies that participate in the same group(Group) ¥ My company controls a company obliged to carry out statutory audits; Y if he has passed at least 2 of the following three requirements for two consecutive years - total assets: € 4,000,000.00; - total revenues from sales and services: € 4,000,000.00; - employees employed on average during the year: 20 units. The obligation ends if any of the aforementioned new limits are not exceeded for 3 consecutive financial years. When the Board of Statutory Auditors is appointed, the Board of Statutory Auditors exercises both : - the supervisory function of the administration - and the statutory audit function, unless the articles of association provide otherwise. In this case, the members of the Board of Statutory Auditors must be chosen from among statutory auditors registered in the appropriate register. “unless the articles of association provide otherwise” The shareholders can decide - through a specific provision of the Bylaws - to entrust the performance of the statutory audit function to an external party (auditor or auditing firm). In practice, however, it is common for the articles of association to be handed over to the assembly of the shareholders the choice to entrust the statutory audit of the accounts to the Board of Statutory Auditors or to an auditor (or to a auditing firm). This is chosen in the by-laws, for ex that the college sindsacale also has the audit function. General principle: the Board of Statutory Auditors has both functions; normal rule is just to have BoSA Exception, if expressly provided: BoardStatuatoryAuditors + Auditors/Auditing firm (external body) Board of Statutory Auditors - functions Management control The Board of Statutory Auditors oversees (with inspection and control acts) compliance with the law, the Articles of Association and the principles of correct administration. 100 Audit As a general rule (# SRL) itis entrusted to an auditor / auditing firm registered in the Register or, in the Spa that make use of risk capital, to an auditing firm. Companies that do not make use of risk capital and that are not required to draw up the consolidated financial statements can entrust the accounting control to the Board of Statutory Auditors by means of a specific provision of the Articles of Association. Appointment of the auditors They shall be indicated: - for the first time, in the company's articles of incorporation - subsequently, they shall be appointed by the shareholders’ meeting, which is also required to determine their compensation for the entire duration of their office. The President is appointed by the Sh. M. With reference to listed companies, art. 148, TUF sets forth that the members of the Board of Statutory Auditors shall be appointed through a slate vote and that a standing Statutory Auditor and an alternate Statutory Auditor shall be appointed by the minority. Except for the minority members in listed companies, the members of the Board of Statutory Auditors are appointed by the same majority which appoints the directors, causing a potential prejudice to the neutrality of their control. Composition The BSA is composed of 3 members or 5 standing members (either shareholders or not) (“effective members’) and of 2 alternate auditors, whom have to take over in case the standing Statutory Auditors are unable to carry out their office (“alternate members”) Requirements The members of the Board of Statutory Auditors need to be “independent” and must satisfy certain professional requirements: - art. 2397, paragraph 2, CC sets forth that at least one standing Statutory Auditor and one altemate Statutory Auditor must be chosen among the legal auditors enrolled with the specific register of legal auditors; - while the other Statutory Auditors do not need to be enrolled with such register, but, in any case, they need to be selected among the professionals enrolled with one of the registers set forth by the decree issued by the Ministry of Justice, or among full professors teaching economics or law. There are specific provisions regarding the requirements that the Statutory Auditors of listed companies have to satisfy Duration and termination of their functions They remain in office for 3 years and expire on the date of the Shareholders’ Meeting called for the approval of the financial statements. The termination takes effect from the moment the new college is reconstituted There are some circumstances that cause the termination of their appointment, such as: Interdiction, cancellation from the specific register of legal auditors, failure to attend 2 meetings of the BSA, BOD, SHM. Auditors may resign for legitimate reasons: health, impossibility to discharge their duties. Revocation Only for good cause with resolution of the Sh M + approved by court decree, after hearing the interested party The BOSA’ duties They oversee: (I) the compliance: - with the law - and with the by-laws, - as well as with proper management principles (II) and, in particular, the adequacy of organizational and internal control structure of the company. + It carries out the accounting control if provided 222277722? 101 12/11/2020 CORPORATION - GROUPS Companies frequently operate in group structures. Although affiliated companies are separate legal entities, a corporate group functions as an economic unity. Thus, the corporate group consists of legally independent. but economically associated companies. However, only the affiliated companies are capable of holding rights and liabilities, the corporate group itself is not. There is no legal entity that is called group, is just a form of making them work together. Most jurisdictions provide no legal definition of groups of Co. - Economic definition => many legal entities which carry out their activities as if they were a sole enterprise, coordinated by one of such companies. - Parent company (has the control) and subsidiary companies (under the control of parent company). There can be: Vertical structure or pyramidal structure ENE ca “to control” a company: what does that mean? The notion of control varies depending on the jurisdiction. Generally speaking: controlling a company means having the power to appoint the majority of its directors. The control of company A by company B may be: - direct: company B directly holds the majority of voting rights - orindirect: company B controls intermediate companies C, D or E, etc, which it can ask to vote the same way on the management board of A, thereby obtaining a majority of rights. Common features in the definition of control : a) aSh. holds 50+1 % of votes; ) de facto majority, ) control by participation in Sh.s’ agreements; ) power to exercise a dominant influence on the business decisions of another Co. by way of some specific contractual agreements, for example you are a company under fiat, you supply something to them, so you have to do what they say following the contractual agreement e) power to appoint the Ds of another Co. — itis also implied in the dominant influence concept and it is implicit in most of the other cases described; f) power to influence the management and existence of a uniform management a2aou INTRA-GROUP TRANSACTIONS They are frequent: efficient, less expensive. Potential risk: they can cause benefits to one Co. or the whole group to the detriment of one subsidiary. Problems of protecting minority Sh. and creditors of subsidiaries that may have suffered damages. Unfair transactions to some subsidiary: prejudice to Co., its minority Sh., its creditors. Germany, France, Italy require their courts to evaluate whether the overall operations of a subsidiary and especially its relations with the parent Co. and the other subsidiaries are fair. Only Germany has a detailed legislation about Groups of Co. (Konzemrecht 1975). Italy has some rules about the liability of the parent company towards the minority shareholders and the creditors of its subsidiary companies (Artt. 2497 ff. ICC) 104 13/11/2020 In GERMANY a group of companies consist of a controlling and one or more controlled enterprises combined under the uniform direction of the controlling enterprise. The controlling enterprise will make directions and decisions, Konzernrecht applies only if subsidiaries are public Co. The controlling entity may take any form, including that of a sole proprietorship. The German corporate group law is rich in terms: contractual group; de facto group, integration. =™ Contractual group (subsidiary/dependent Co is an AG) : - acontract of domination is entered into between parent and subsidiary. There is an agreement between subsidiary and parent - it must be approved of by Sh.s' Meetings of both Companies with 3/4 majority of shares in attendance; the BoD has to propose to sh.meeting the decision to enter into the group - Parent Co. has the right to require its subsidiary to follow group interest rather than the interest of the individual subsidiary; each subsidiaries have to reach the interests of the group - parent Co. must indemnify its subsidiary for any losses suffered because of acting in the interest of the group under parent directives; losses are computed every year. - Instructions of parent to subsidiary cannot threaten the existence of subsidiary. Minority Shareholders of subsidiary: - right to annual compensation - or right to withdraw from Co.; - derivative suit against parent Co. in the interest of subsidiary ™ De facto group, here there is no contractual agreement : - law applies directly only if subsidiary is a public Co.; - most common type of group; - parent Co. cannot force a subsidiary ("dependent Co.”) to enter into any prejudicial transaction without indemnifying it (at the end of the year), there is no provision that says that whereas in the contractual group there are specific obligations to follow - joint and several liability of parent for obligations of dependent Co. - Report of BoM and BoS of dependent Co. and liability for omission. - Problem: computing the right amount of losses-damages (e.g.: loss of opportunities). ™ Integration among companies, : - Parent Co. holds 100% of subsidiary; both must be public Co. - If acontrolling Co. holds at least 95% of a subsidiary, minority Sh.s of subsidiary can be bought out by the parent Co. - operates as a branch of its parent Co.: parent Co. can give instructions to its integrated Co.; no need for such instructions to be aimed at furthering the interest of the group or a member thereof. - The parent Co. is always liable to the creditors of the integrated Co. jointly and severally with its integrated Co.; - compensation to subsidiary-integrated Co. for certain accumulated losses 44 % of the operating stock corporations listed at a German stock exchange are controlled; 105 ITALY The law provides ex post review of the overall faimess of a subsidiary management. There is no definition here of what a group is - Parent Co., its BoD, its controlling Sh. are liable for damages caused to creditors and minority Sh. of a subsidiary, provided that there has been mismanagement (breach of principles of fair management of Co. and its business). The damages incurred must be set off against the benefits that the subsidiary obtained by being part of the group; the practical application of such principle is very difficult. A creditor has to sue both, first subsidiaries then the parent company - Strong explanation of the resolutions of the BoD of a subsidiary when influenced by the holding —> if the subsidiary wants to take a decision where there has been an influence of the parent company , then they have to explain to all the shareholders that they are gonna do it because the parent company said to do so but also they have to explain that it is a good decision for them, itis not negative on the company - Obligation to enter the name of subsidiary and its parent Co. in a special section of the Register of Enterprises. - Right of withdrawal from Co. of the Sh. of the subsidiary in certain situations (eg. beginning-end of the participation in the group). It is given to all shareholders of subsidiaries at the beginning, so when the group starts FRANCE A parent Co. can instruct one of its subsidiaries to act against its interest for the sake of the group. This is Lawful if three conditions are met (Cour de Cassation) : a) the structure of the group is stable and long-lasting; b) the parent is implementing a coherent group policy; c) overall equitable intra-group distribution of costs-revenues. You have to prove that cost and revenues of transactions were equally distributed between company and subsidiaries. The scope of this principle is not well defined US In some States controlling Sh. owe a fiduciary duty not to oppress minority Sh. or the Co. Eg: Sinclair Oil Co (Del. 1971) . So the controlling shareholders cannot decide everything for the others Transactions parent/subsidiaries are related party transactions: - they must be fair, at arms’ length (be legal); - independent Ds should be added to the BoD of subsidiaries and should resolve on intragroup transactions. Controlling Sh.’s liability : a) piercing of corporate veil (“PCL”) : go over the limited liability which each shareholder has. the principle applies as an exception and only in close corporations. Main factors taken into account by courts : i) failure to observe general corporate formalities; ii) non payment of dividends; iii) draw off off of corporate assets iv) non functioning of officers or Ds. v) absence of corporate records b) enterprise theory : different Co.s are treated as a unique enterprise; main factors taken into account: commingling of assets among various Co; interlocking BoD c) equitable subordination : are subordinated to those of the other creditors. Main factors taken into account: commingling of assets 106