In particular, the new law should serve small limited companies which form the majority of all companies. The freedom of action of companies has been increased and limitations and formal requirements have been reduced.
The key principles, with whose help problematic situations are ultimately solved, are presented more clearly than before in the new Act. The purpose of a company is to generate profit for its shareholders.
Based on the majority principle, shareholders make decisions at the General Annual Meeting according to a majority vote. On the other hand, the principle of equality means that a majority of the shareholders cannot infringe the rights of the minority. Equally, the company’s management must be loyal and may not generate unjustifiable benefits for some at the expense of the company or shareholders. Furthermore, the management’s general duty of care is now cited in the law. This duty also serves to protect minority shareholders and creditors and forms a key foundation for liability.
The previous Companies Act included provisions on the liability of a company’s management and shareholders. Under the new law, these provisions have been extended in other directions and made more specific even though, according to the reasoning underpinning the law, these suggestions have not been made in order to tighten or loosen liability. Nevertheless, in the comments on the draft bill, representatives of business life, the Federation of Finnish Insurance Companies and the Confederation of Unions for Academic Professionals in Finland found that the amendments constituted a tightening of liability.
The relationship between a company and its management can be compared to that between a client and an authorised representative. The provisions on liability in the Companies Act do not exclude liability on some other basis, such as an agreement, the Security Markets Law or the Damages Act.
When strict regulations are reduced, thus giving the management more freedom of action regarding the company’s operations, it is easier than before to make mistakes, which are then examined against the duty of care. The new law allows for discretion in all areas: the founding, financing, management etc. of a company. For example, the Board of Directors can make a decision without convening, and a company is under no obligation to have a Chief Executive Officer. This may also increase the number and size of claims.
The Liability of a Company’s Management
The provisions on liability are stated in Clause 22 of the Act. According to the main provision, a member of the Board of Directors or the Supervisory Board or the Chief Executive Officer is liable for damage caused to the company intentionally or through negligence against the aforementioned duty of care. If the damage has been caused by a breach of the Companies Act or the Articles of Association, liability arises not only towards the company but also towards shareholders and other parties, e.g. creditors. These regulations correspond to the previous law. However, according to the new Act, the definition of who handles the company’s management is now made on the basis of who has been appointed to the task, leaving the entries in the trade register more-or-less as evidence material.
Liability is evaluated objectively for each individual. In practice, the evaluation of the liability of a company’s management is reduced through the so-called business judgment rule. Actions causing damage do not give rise to liability if the decision was made honestly and correctly, taking the valid circumstances at the time into consideration, and based on sufficient knowledge. In order to be able to assess the justifications for decisions made by the management in retrospect, it is recommended that they be documented.
A new feature is that, if the damage was caused by a breach of some other provision of the Companies Act than the aforementioned general principles, or by the breach of a regulation in the Articles of Association, the damage is considered to have been caused through negligence, unless those liable can prove that they have exercised due care. In other words, liability has been tightened through the so-called presumption of negligence, which places an executive under the obligation to prove his or her innocence. According to the new Act, the same rule also applies to actions which have caused damage to the company while parties closely related to the company have gained from said actions.
”Closely related to the company” means having considerable authority and influence over decision-making concerning finances and business operations. The liability provisions belong to the regulations of the so-called related-party transactions. Regulations concerning loans granted by the company also apply to related parties. The background to the presumption of negligence is that, while regulations concerning related parties have otherwise been reduced, legal protection has been improved by facilitating the receipt of compensation.
Moreover, in the future the AGM can discharge the Board of Directors and the Chief Executive Officer from liability albeit that, under the previous law, the discharge of liability had less significance in legal practice if the AGM did not have sufficient information on the actions of the management. Now the same principles have been stated in the law. The discharge from liability is not binding if relevant and sufficient information was not available at the time or if the company is declared bankrupt or reorganisation proceedings are initiated within two years of the AGM. Therefore, the spesific decision on discharging from liability is no longer imperative.
The liability of the company’s management in cases of damage caused to the company itself can be limited in the Articles of Association if all shareholders agree to this. These limitations cannot concern damage caused intentionally or through gross negligence, nor can they limit the rights of others, such as shareholders or external parties.
The Shareholder’s Position
The new Act has expressly excluded the possibility for shareholders to receive compensation directly for damage caused to the company by the management. Naturally, damage caused to the company may cause indirect damage to shareholders through, for example, a fall in share prices.
The task of the company’s Board of Directors or the AGM is to demand compensation for the company and in that way secure the interests of the shareholders. However, if these parties do not take action, an individual shareholder has the right to take a liability case to court on behalf of the company if failing to exercise the right to present a demand is counter to the principle of equality. In other cases, a qualified minority of one tenth of all shares is required to take the issue to court.
If the party liable to pay compensation has been discharged from liability by a decision of the AGM, the proceeding must be initiated within three months of the decision of the AGM. The shareholders pay the legal expenses themselves when taking an issue to court on behalf of the company, but if they win, they can receive compensation for these expenses if the assets adjudicated to be paid to the company are sufficient.
The shareholder can also be liable for damage caused while functioning within the company. This occurs if the shareholder has contributed intentionally or through negligence to any breach of the Companies Act or the Articles of Association, which has resulted in damage to the company, other shareholders or another person. This type of damage is most likely to be caused during an AGM.
A shareholder is also under an obligation to prove that he or she is not guilty of gross negligence if the person who caused the damage has acted to the benefit of related parties. This can be important in a company where a single shareholder holds the majority of votes at an AGM. The position of a small shareholder in a large stock exchange company is quite different.
Under the old law, a shareholder was liable only if he or she was guilty of gross negligence. According to the new Act already milder negligence is enough as the issue involves breaking the law or the Articles of Association. Even though a shareholder is as such entitled to pursue his or her own interests in the company, this cannot be done in any way he or she pleases. The basis for liability is also more consistent under the new law and independent of the position in which the person in question acts while influencing the operations of the company.
The Liability of the Chairperson of the AGM
The new Act includes a regulation on the liability of the Chairperson of the AGM, which can be considered appropriate, considering the Chairperson’s tasks and significance in the course of events at, and the documentation of, the AGM.
Auditor’s Liability
The liability of auditors has increasingly tightened during the last few years as a result of, for example, misappropriation at large international companies. Auditors are considered to be guarantors of the shareholders and others, under the supervision of the company’s management. However, their liability is not stipulated by the Companies Act but by the Auditing Act.
The auditors liability legislation is under development at the moment in all EU member states.
Instigating Liability Proceedings
The periods for instigating legal proceedings have been extended, as the previous ones were considered too short. These periods have also been made consistent and are set at five years. For management, the time is calculated as of the end of the financial period in question; for auditors, as of the date on which the Auditor’s report, statement or testimony is given and, for a shareholder and the Chairperson of the General Meeting, as of the time of issuing the decision or measures upon which the proceedings are based.
Issues relating to limited companies are considered to require special professional skills in courts. Therefore the new law stipulates that such cases be tried only at the Åland, Helsinki, Kuopio, Lahti, Oulu, Tampere, Turku and Vaasa district courts.
Corporate Management’s Liability Insurance
Directors' and Officers' Liability Insurance policies are also common in Finnish limited companies. Liability insurances are under constant development in order to have them correspond to legislation and practical practices. The new regulations of the Companies Act do not involve major structural amendments to the liability of the management. Insurance covers the management liability to the same extent as before. However, the flexible possibilities in Company Management afforded through the new Act may in practice contribute to additional errors and liabilities. D & O Liability Insurance may thus be considered a professionally managed company's basic insurance coverage.
Matti Sjögren
