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The European Company Statute:
Corporate Governance under the Proposed European Company Statute
© May 2001 Dr Maria Chetcuti Cauchi. All Rights Reserved.

Corporate Governance

1. Definition

Corporate Governance is about the process of direction of a company, the relationship between the board of directors and management. It is ultimately about regimes of accountability.[1]

The regulations governing the structure of the corporation[2] and the implementation of power and control in a business[3] are generally referred to as corporate governance. By and large this comprises the function, rights, and duties of the shareholders, the directors, and the executive officers. Although the members of the company have an economic interest in the company, yet it is impracticable for them to manage the company on a day to day basis too. Thus, management is usually delegated to other individuals. In order to safeguard the rights of members and stakeholders, the law devised a system of checks and balances so that abuse of power by managers is prevented. Essentially, this is the essence of corporate governance.[4]

Traditionally the term corporate governance has always referred to a system whereby the board of directors administers the corporation and lays down business policy,[5] executive officers act as agents of the board and execute its decisions and the owners of the corporation (shareholders) elect directors and vote in GMs on key business issues ranging from amendments to the company’s statutes, to mergers and major corporate sales[6].

Different national laws provide diverse methods of dealing with these management and control functions of the corporation. Essentially, there are two forms of corporate governance: the UK corporate governance structure representing the Anglo-American corporate structure, with a single-tier board of directors and the German company structure presenting a two-tier system,  with a supervisory board to monitor the managing board and the latter to carry out the day-to-day running of the business.[7]

The Regulation on the Statute for a European Company makes provision for a separation of powers between the GM of the shareholders and the board. The former is to take decisions on major items of business whilst the managing bodies (whether in a one-tier or a two-tier board structure) are to manage and represent the SE.

2. The role of the board of directors

The importance of the role of directors under company law, has its inception in the 20th century era, when the phenomenon of the managerial revolution took place. This phenomenon has been described as the “separation of ownership and function of capital”[8] or as the “separation of ownership and control of wealth”.[9] It has been argued that company boards have four principal functions, namely: to provide guidance to the head executive officer; approve main corporate strategies; provide a procedure for persons, who are not executives, to be represented in the company decision making process; and select, regularly evaluate, and, if necessary, replace the chief executive officer and other senior executives.[10]

3. The rights of shareholders

The 1990s have witnessed a persisting discussion as to the extent of shareholders’ rights under national company law systems. These rights vary from public to private companies and listed and non-listed companies. Indeed some jurisdictions embody shareholders’ rights through the supervisory board, as the latter is deemed to be the body which acts in the shareholders’ interests, to check, supervise and correct the active management.[11] Other systems resort to legislation such as the statutory right to call for an extraordinary GM.[12] However, under all systems of governance, shareholders are excluded from the performance of any managing or representative function.[13]

The role of Courts in resolving shareholder disputes is evidenced in several countries such as the UK and Germany. These countries place heavy reliance on the protective role of the Courts. However, one should address  the question as to whether the Courts are the best institution for enforcing compliance. This is because the approach frequently adopted by the Courts to company litigation is not very encouraging: judges do not show the same awareness of commercial values and business priorities as the legislator does; delays are not avoided and the costs rise high; there is no willingness to intervene as little as possible and let the business go on and a large number of procedural hurdles and filing and notification requirements are necessary. Thus, one starts doubting whether the Courts are, in actual fact, the bastion of the shareholder.[14]   This has resulted in countries, which had previously relied heavily on judicial discretion, such as Italy and Switzerland, introducing a wider range of statutory entitlements available to shareholders.

 Management of the Company: Conflicting Approaches

Undoubtedly, the debate on company law harmonisation throughout the EU has experienced its most challenging instances when facing the worker participation issue[15] and the application of the two-tier system of management.[16]

1. The British approach: single-tier system

In this debate, the British point of view has been in direct conflict with the approach adopted by other MSs. Under British Law, the company has a separate legal personality, it is a persona juridica which exists autonomously and  it is controlled by its organs.[17] The role of shareholders is to exercise their power in the GM, whilst the directors have a fiduciary position vis-à-vis the company and they must act in the interest of the company.[18] When it comes to the interest of employees, creditors, investors and customers, British corporate law recognises that these form part of the commercial world, but they do not fall within the ambit of company law.[19]

Under this system, the prevailing mentality is that the management board is accountable to shareholders and not other groups.[20] In fact, S. 309 of the 1985 UK Companies Act provides that directors are merely:

S. 309: … to have regard[21] in the performance of their functions … (to) the interests of the company’s employees in general, as well as the interests of its members.

This surely differs from S. 70 of Germany’s Public Limited Companies Act (1965) which authorises the managing directors to pursue the public interest, the employees’ interests and the shareholders’ interests without giving any of them priority. This system goes completely against the British company law tradition and many years of common law principles are suddenly challenged.[22] Thus, it is quite understandable that considerable tension is created[23] when, under the continental system, employees are recognised almost as much as shareholders.

Under English, Belgian, Italian, and Scandinavian law, shareholders periodically elect a board of directors, sometimes also referred to as ‘administrative board’. This institution is responsible for the control of the company, though there is no formal distinction between supervisory and management functions. The members of this board jointly handle the affairs of the corporation and arrive at decisions by a majority vote and they are also entitled to assign any of their powers, or even the complete administration of the company's affairs, to one or more of their number.[24]

The directeur general or direttore generale is appointed with one or more assistant managing directors and the board of directors authorizes them to enter into all dealings necessary for the running of company's business. This authority is only conditional to the general supervision of the board and to its sanction of major decisions, for instance borrowing  or the giving out of shares or bonds.

2. The German system: two-tier system

The supervisory-managing board dichotomy in Germany goes back to the second half of the nineteenth century, when German industry was trying to catch up with its English counterpart. Due to its under-developed stock market and lack of wealthy private investors, the financing of industry was carried out by universal banks, which developed a close relationship with their clients, and thus had to be represented on the company’s board.[25]

With its management codetermination, Works Councils and institutional representation on the Supervisory Board, German company law has been classified as the system which best offers protection to the employee, a system which is “at the ultra-red end of the comparative spectrum on industrial democracy”.[26] The argument in favour of the two-tier system claims that only non-executive directors, who are separate and independent from the board, can exert effective control on the management.[27] Critics of this system state that this procedure slows down the decision–making process and the supervisory board remains too detached from the work carried out by the management.[28]

Complex management structures dominate the scene in case of public companies. The  two-tier arrangement is also referred to as a dual system.[29] In this case, the upper tier is made up of a supervisory board (Aufsichtsrat) whose members are chosen periodically by the shareholders and the employees of the company.[30] This board is almost deemed to be an intermediate between the shareholders and the management board as the shareholders can use the rights deriving from their ownership through this upper-tier. However, this board is not only the representative of shareholders but it also broadens control to represent the interests of other stakeholders, particularly employees.[31]

The lower tier is composed of a management board (Vorstand) and it includes one or more individuals appointed by the supervisory board. This member/s chosen by the supervisory board cannot also be a member of the supervisory body. The business of the company is administered by the management board, conditional to the supervision of the supervisory board. The management board is obliged to report periodically to the supervisory board and the latter may at any time call for information or clarifications. The management of the company itself may not be undertaken by the supervisory board itself, but its approval may be required in the case of specific transactions.[32]

3. Various models of company law

Different countries have different conceptions of the rationale behind a company. These dissimilar conceptions have an effect on the shareholding and board structure, thus resulting in diverse corporate governance structures.[33]

Under the contractual theory, the wishes of the shareholders are seen as the overriding consideration in the management of the company. This emanates from the fact that at formation, only the shareholders of the company, as owners of the company, were involved. This theory has been extended by British Courts even into the period when the company is in full operation, with the consequence that the interests of the shareholders are equated with the interests of the company. This results in the exclusion of other interests by the management, thus resulting in employees and creditors being regarded as ‘outsiders’.

Problems which have arisen in the application of this theory mostly have to do with different interests which different shareholders could have: the extent to which dissenting minority shareholders are to be considered when the interests of the company are in question[34]; whether the interests of the company can be equated with the interests of ‘the single individual hypothetical shareholder’[35] and whether a hypothetical future shareholder could be used as the benchmark for the general body of shareholders.[36]

On the other hand, the separation of ownership and control theory provides that since the ownership and control of a company are usually in separate hands, then the identification of the shareholders with the company no longer represents reality. This results in a situation where the company is regarded as a creature on its own, separate from the interests of the shareholders and of the professional managers.[37]

The constituency model presents a two pronged theory. The first variant of the model regards the company as the exclusive property of the shareholders and thus, it is run in their interests. However, it is in the interests of the shareholders to consider other interest groups as ignoring the latter would damage the shareholders’ position. The second variant of the theory admits that there are other interests which are to be considered and it is in the interest  of the company to take such groups into consideration.

The enterprise model is the model adopted in Germany and Holland. Under this model, the directors are to take into account the interests of the shareholders as well as the interests of other parties. These are regarded as forming part of the company and have a corporate function inside the decision making process.[38] This model is one of the models adopted in the ECS in the two-tier option.[39]

 Management Systems available under the SE

Early proposals for an ECS imposed the two-tier system on the SE. The present draft of the proposed Council Regulation on the Statute for a European Company[40] presents two management structures and the choice, as to which model a particular SE adopts, is to be made by the founder companies of the SE itself. The articles of the European Company shall specify whether it is opting for a two-tier or a one-tier structure. The former has a management board and a supervisory board whilst the latter consists of a management board only.[41]

1. The two-tier board model

The separation between the management and the supervisory board goes back to the nineteenth century, and the first co-determination law was enacted in 1920. Under the ECS, the two-tier structure consists of a management board with a supervisory board monitoring its activities. The former board is appointed by the latter. The management board, composed solely of insiders, is responsible for the company's daily business activity. The supervisory board has general oversight functions and is responsible for safeguarding a company's overall welfare by reviewing management board activities. The two-tier board presents a  distinct division in corporate responsibilities and also allows directors to supervise and take action completely independently of the management.[42]

It has frequently been argued that the two tier board model is unique in the sense that it:

creates a clear institutional and personal separation of monitoring and management organs and, accordingly, realizes a distinct distribution of responsibilities and powers within the corporation.[43]

 The supervisory board

Under the ECS, the GM, together with employees[44] have the power to appoint the supervisory board.[45] The role of the supervisory board is to check and monitor the management board. This board may not engage in management tasks and may not represent the company in transactions with third parties.

 The management board

The supervisory board has the power to appoint and remove members of the management board at any time.[46] The management board has the duty to provide the supervisory board with information and respond to enquiries.[47] No member may serve on both the management board and the supervisory board at the same time, except if a vacancy arises on the management board and in such a case, the role of such member on the supervisory board is momentarily suspended.[48]

2. Single-tier system

Under the single-tier structure, an administrative board is to manage the SE.[49] The SE’s Statutes shall lay down the number of members on the board.[50] The members are appointed or removed by the GM unless minority shareholder rights under national law or model employee participation rules provide otherwise.[51]

The administrative organ is to meet at least once every three months to discuss the progress and possible development of the SE's business and each member of the administrative board is entitled to examine all information submitted to it.[52]

A chairman will be elected among the members but if half of the members are elected by employees, only a member appointed by the GM may be chosen as chairman.[53]

3. Rules common to both

The appointment of members of the company organs shall not exceed six years, but generally re-appointment is possible, unless there any restrictions in the Statutes.[54]

A company or other legal entity may be permitted to be a member of one of its organs, if permitted by its Statutes, provided that this does not go against the law applicable to public limited‑liability companies in the MS in which the SE is registered. The legal entity present on the company board shall designate a natural person to exercise its functions on the board.[55]

National law permitting a minority of shareholders or other persons or authorities, to appoint representatives on the company organ will not be affected by the Regulation governing the SE.[56]

Persons who are disqualified, under the law of the MS in which the SE is registered or who have been disqualified by a judicial or administrative decision delivered in that same MS, may not be members of the SE organs.[57] Particular conditions of eligibility for members representing the shareholders may be laid down in the SE's Statutes.[58]

Particular transactions which require authorisation of the supervisory organ in the two‑tier arrangement or an express decision by the administrative organ in the one‑tier system, shall be listed in the SE’s Statutes .[59]

The members of an SE's organs shall be obliged not to divulge any information dealing with the SE, even after their office has ceased, except where such revealence  is required or permitted under national public limited‑liability companies law or required in the public interest.[60]

At least half of the members of the board must be present or represented in order to have a quorum and a majority is necessary for decision taking.[61]

As a general rule, the chairman of each organ shall have a casting vote, unless the SE’s Statutes provide otherwise. Where half of the supervisory organ consists of employees' representatives, there can be no provision to the contrary in the Statutes.[62]

Where employee participation is provided for a MS may provide that the supervisory organ's quorum and decision‑making shall be subject to the rules applicable to public limited‑liability companies in the MS concerned.[63]

An SE's management, supervisory and administrative organs members shall be liable for loss or damage sustained by the SE following any breach of the legal, statutory or other obligations inherent in their duties on their part.[64]

4. Advantages of the two-tier system

Earlier drafts of the ECS imposed the two tier system on the SE. The influence of German corporate law was highly felt in the Regulation. One has to admit that there are situations in which the two-tier model and a division between various members of the management group is more advantageous. This can be seen in the case of transfer of management to a particular person whilst retaining  supervisory control in order to verify  his capacity in managing the company; division of power in companies where two families have equal shares; upgrading professional managers to a directorate level; finding roles on the boards for a large group of people after a merger and solving the difficulty of distinctiveness between the chairman and the chief executive.[65] 

This system attempts to create a less introspective and elitist management structure; it introduces diversity and affords a more prudent approach vis-à-vis different groups forming the corporate nexus.[66]

 Cultural entrenchment

1. Refusing imposition of the two-tier system 

With all its advantages, the two-tier system still could still not be accepted by some MSs. The fundamental problem was the imposition of a corporate structure, with all its provisions on employee participation, on another system which was centralist in nature. A country’s company law regime is an assembly of traditions which has developed  according to a society’s own way. This results in a situation where diverse jurisdictions highly differ from one another, much more than one would imagine:

… because, the centre of gravity of legal development lies not in legislation, nor in juristic science, nor in juridical decision, but in society itself.[67]

British businessmen and politicians alike regard the implementation of the two-tier board system, as a dangerous and costly reform, which at the end only results in allowing greater power to the labour-force.[68] Under English law, the position of employees vis-à-vis the company, which employs them is deemed to fall under industrial or labour law and not within the ambit of company law.[69]

2. Choice of board structure: can a centralist mentality be changed?

Under the present ECS, companies may choose which board structure to adopt. This choice has been regarded by many as the best solution towards greater integration. Satisfying all parties involved would remove all the obstacles which have, for decades, challenged the development of the ECS. However, one should not raise his hopes too high as this solution could have its repercussions too.

The presentation of such a choice between the one-tier and the two-tier board structure has already taken place in France in 1966. French legislation openly permits public companies to establish either a unitary board of management or else a supervisory board (conseil de surveillance) and a management board (directoire). This is highly similar to the German equivalent. French companies, which had previously been rooted in centralist values were given the possibility of adopting a two-tier board of management, where the directoire holds the responsibility of the day to day running of the business whilst the Conseil de Surveillance ensures that the management carries out its duties proficiently.[70]

By the 1990s, only 7.6% of the French public companies chose the two-tier board structure.[71] The EEC Green Paper of 1975 admitted that:

Only a small proportion of companies have adopted this structure and many of those who originally adopted it have reverted to the old classical system.[72]

Now, the same situation could take place under the ECS. Let us assume that a company in Britain or any other MS which embraces the ‘single-tier’ ideology decides to convert into an SE and it decides that such SE is to be governed by a two-tier management board.  The question, in this case, is whether the ex-English company management board will be able to adapt to the new system. Will the directors really carry out their duties properly under the two-tier system?

It is very likely that the end result would be that friction and conflict between the two boards, will occur. Here, one should refer to what occurred in France. The result was a drastic decrease in the number of companies opting for the two tier system. One possible difficulty could be that the supervisory board would find it very difficult to confine itself merely to control, without trespassing on management territory[73] and exercise of control by the supervisory board would explicitly go against the ECS:

Article 40 The supervisory organ shall supervise the work of the management organ. It may not itself exercise the power to manage the SE.

Will the management board report to the supervisory organ as prescribed by the Statute[74] or will the members of the management board bypass the supervisory organ as they would still be entrenched in the mentality that they owe allegiance only to the shareholders? The factor causing all these problems is the cultural entrenchment of various MSs, such has the UK, in a centralist philosophy. Under UK legislation, shareholders’ interests are granted primacy for the purposes of corporate governance protection as:

The fundamental model of UK company law – together with most comparable systems – remains that of the shareholder’s ‘city state’.[75]

The failure to introduce a two-tier system in France is evidence of a lack of desire for any reform in corporate structures and traditions. Most companies still feel that the concentration of managerial powers in one organ is the best system, resulting in more efficiency, simplicity and secrecy[76] and the introduction of a structure imported from another legal system cannot not be accepted:

… it is imperative that that structure is employed efficiently and is in keeping with the expectations of all parties in the company. Companies must not be prescribed with structures culturally alien  to those expectations.[77]

Management structure is the result of the commercial history of a State. Such State is very likely to regard other methods as alien to its traditions and costly in terms of restructuring  of corporations that already run smoothly.

 Control Exercised by Shareholders

All the countries, throughout Europe, have provisions giving ‘residual’ control to the shareholders through the GM. This power given to shareholders is ‘residual’ in that much of the daily decisions regarding the running of the business are taken by the managerial sector, whilst the remaining decisions on particular, listed transactions are taken by the GM.[78]

The GM decides on matters for which it has sole responsibility, as provided by the Regulation and the law of the State of registration.[79] These matters include, inter alia, the appointment and removal of members of the supervisory board[80], the transfer of the SE’s registered office from one MS to another, amendment of the SE’s articles[81] and distribution of profits and treatment of losses in case of winding up of the company. Any other matters which are not under the responsibility of the Board of Directors, shall fall within the responsibility of the GM.

Therefore, in order to determine which matters fall within the responsibility of the GM the ECS provides that reference to national laws governing corporations in the State of registration is to be made. Obviously, SEs registered in different MSs will have different provisions governing them and thus, as regards SEs registered in France, the GM will have particular matters falling under its control whilst shareholders of an SE registered in Germany will have different issues. This further weakens the ‘European’ character of the Statute.[82]

1. Voting

The general rule is that decisions of the GM are taken by majority of the votes cast, unless the Regulation requires otherwise or the law applicable to public limited‑liability companies in the place of registration requires a larger majority.[1] This is subject to the power given to MSs to establish that, where at least one-half of the subscribed capital is represented, a simple majority of the votes shall suffice.[2] Under the 1989 proposed Regulation, the voting rights of a shareholder were proportionate to the fraction of subscribed share capital which such shareholder held.[3] Under the present Statute, it is no longer proposed that voting rights should be proportionate to subscribed capital.[4]

2. Shareholder Protection

The ECS provides some protection to minority shareholders. Under Articles 55 and 56 we find that a 10% minority of an SE's subscribed capital may request a GM and put items on the agenda. Since in larger companies this could be a sizeable number of votes to collect, the SE's Statutes or national legislation may provide for a smaller proportion under the same conditions as those applicable to national public limited‑liability companies.[5] Furthermore, if such meeting, requested by these shareholders, is not convened in due time, these minority shareholders may request the competent judicial or administrative authority to order that such GM be held within a stipulated period of time.[6]

3. Right of information of shareholders

Originally it was provided that the management could withhold information from the GM if such information could be incompatible with the legal obligation of confidentiality. The problem was that there was no clear way in which this managerial power could be checked and controlled and decision-taking could be blocked due to allegations that adequate consultation had not taken place. This could have resulted in nullification of decisions. The new draft does not deal with this matter and harmonisation in this area is now a moot issue.[7]

4. Classes of shares

In case of an SE with two or more classes of shares, every decision by the GM shall be subject to a separate vote by each class of shareholders whose class rights are affected thereby. Moreover, if a decision requires a majority of votes, that majority shall also be required for the separate vote by each class of shareholders whose class rights are affected by the decision.[8]

 Passing over of matters to National Legislation

Previous drafts of the ECS often presented exact provisions dealing with particular matters. It is a fact that the draft Regulation as presently drafted has been diluted. Many problems which were causing deadlock have been overcome by referring to national law or leaving the matter to be decided by the promoters of the SE in the SE’s Statutes.

Originally the make-up of the SE board was regulated by the Statute, now it is left in the hands of those setting up the SE. Also the manner in which the board could delegate its powers and the issue of directors’ liability have been completely left to national legislation.[91] Originally, all directors were to have the same rights and duties, irrespective of whether they were executive managers or non-executive supervisors. Thus liability for the loss of the company weighed on each and every one of them and the burden of proving that he was not in breach was reversed on the director himself. All the above provisions have been deleted and these matters are now left to the law of the MS of registration.[92]

Earlier proposals of the Regulation presented much more lengthy and detailed provisions covering the role of shareholders in the SE. Earlier drafts enclosed a great deal more comprehensive stipulations concerning shares, including: pre-emption rights and exclusion of shares carrying multiple voting rights; procedural matters covering the manner in which the GM would have to be conducted; the right of shareholders to demand more information regarding a particular matter on the agenda and the shareholder’s voting rights were proportional to the fraction of subscribed capital he/she held. In addition, other essential matters such as the regulation of proxy voting, appointment of such proxies, limitations to the power of voting of the proxy and instructions to the proxy on how he should vote in the absence of instructions, have also been excluded by the Regulation. [93]

Even though many problems have been solved by reference to national law, the problem is that under the present Regulation, much discomfort, insecurity and uncertainty will afflict those who endeavour to resort to the SE as a form of transnational public company as only minimum harmonisation has been achieved. The exclusion or the passing over of certain technical matters to national law does not really make the ECS as attractive a medium for transnational business as its original promoters had hoped it would be.

 OECD Model of Corporate Governance

One cannot conclude this subject matter without making reference to the recent OECD initiative regarding Principles of Corporate Governance.[94] These may prove to be guidelines for corporate governance systems which would solve various matters of contention which the ECS could not unravel. These principles cover the wide areas of fair treatment of shareholders, shareholders’ rights, responsibilities of the board, as well as issues of disclosure and transparency. Shareholders’ rights, such as furnishing shareholders with the opportunity of effective participation in and voting at GMs as well as informing them of the rules governing shareholders’ meetings, and the guidelines covering the composition of directors’ boards, are but a few examples of the detailed provisions suggested by the OECD Model. [95]

Lastly, one cannot shun the fact that the present Regulation, with all its diluted provisions and references to national legislation, is still a major step towards harmonisation in this area. One should keep in mind the fact that corporate governance is a framework within which companies should function, it is a ‘means’ and not an ‘end’ in itself. Thus, there is no universal, unique formula for good governance[96] and as long as some level of harmonisation, within which companies can operate, is achieved, then the ECS will have fulfilled its ultimate goal. Future years and experience will elucidate those grey areas of ambiguity.

© May 2001 Dr Maria Chetcuti Cauchi. All Rights Reserved.




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