Two-tier board structure: liability of directors in case of bankruptcy
1 GOVERNANCE STRUCTURE
Since the entry into force of the new Belgian Companies and Associations Code, a public limited company (NV/SA) has the possibility to install a two-tier governance structure, i.e. the supervisory board whose members are appointed by the shareholders and the management board that is in turn appointed by the supervisory board. Each must be composed of at least three members, who may not combine their functions in both boards. The supervisory board is entrusted with the general policy and strategy of the company and all competences that are explicitly granted by law to the board of directors in a one-tier system. As the name suggests, it must also supervise the management board. The management board is in charge of the operational management, which includes the daily management of the company.
Under the new Code, the competences of each board must be clearly distinct from the other, and as a result there may be no overlap. The supervisory board therefore has only limited means to directly intervene in the functioning of the management board. A general supervision by the supervisory board should remain steering and may not interfere with the competences of the management board. It may however dismiss and appoint new members of the management board.
Having distinct competences for each board of a two-tier structure leads to the question of whether liability of one board automatically entails liability of the other, in particular in case of bankruptcy.
2 LIABILITY OF THE MANAGEMENT BOARD – AUTOMATIC EXTENSION TO SUPERVISORY BOARD?
A director can be held liable for decisions or actions if these were manifestly outside of what would be considered reasonable in that specific situation. Moreover, the liability that directors can incur is joint in case of a collegial organ. In the case of a two-tier structure, this means that liability will be limited to one board level and does not extend to the other.
If the management board is held liable, one should explore whether a shortcoming by the supervisory board has contributed to the fault of the management board. In other words, it needs to be established whether a normally prudent and careful member of the supervisory board would have acted differently in that situation. In any case, the liability of the management board in itself will not constitute sufficient grounds to hold the members of the supervisory board liable as well.
As far as the financial health of a company is concerned, three obligations are imposed upon directors.
- Directors first have a duty to pay continuous attention to the financial stability of the company. In case of bankruptcy, such duty is even more crucial and it applies to both the members of the supervisory and the management board. Therefore, if weighty and concordant facts threaten the continuity of the enterprise, the management board has to deliberate on the measures to be taken to safeguard such continuity. However, this does not exempt the supervisory board of the monitoring of the company’s financial stability as it remains a part of the core duties of any director.
- In case the equity has fallen to less than half as a result of losses incurred, the alarm bell procedure should be complied with. It is the responsibility of the supervisory board to assess which measures will safeguard the continuity of the company.
- Additionally, if at any given moment preceding the bankruptcy, a director – whatever board he belongs to – knew or should have known that there was clearly no reasonable prospect of preserving the business, he should have prevented the company from continuing its activities and urged the board in which he sits, to file for bankruptcy.
Generally speaking, directors’ liability is always limited to the board level on which the faulty behaviour has occurred and does not automatically entail the liability at the other board level. This results in a different degree of liability for each board. However, in case of bankruptcy, both boards have the obligation to pay close attention to the financial health of the company. In a two-tier structure, it is to be noted that the supervisory board carries the additional obligation of triggering the alarm bell procedure. Failure to do so could potentially form grounds for liability in the event of a bankruptcy.
In any case, the factual circumstances of a bankruptcy will of course play an important role in assessing the scope of each board’s obligations and potential liability.