“Supreme Court Decisions: duty of care and special audit in an affiliated group” article by Kaisa Üksik
The Supreme Court of Estonia recently adopted two landmark decisions where it addressed the rights and obligations of management board members and shareholders in an affiliated group.
The facts of the first case were the following: a subsidiary granted a loan to its parent company knowing that the whole affiliated group (including the parent company) was in financial difficulties. The loan was never repaid to the subsidiary as the parent company was terminated by abatement. In essence, the management board of the subsidiary had adopted a resolution which resulted in financial loss for the subsidiary. The court found that such loss did not necessarily mean that the management board members who had adopted this resolution had violated their duty of care. The reasoning of the court was the following: management board members’ duty of care does not mean that the company’s interests exist in a vacuum as the board member must also consider the overall interests of the affiliated group. This means that the management board of the subsidiary may be released from liability when the seemingly harmful transaction was carried out in the interest of the affiliated group as a whole. The court also stressed that what is important is the decision-making process and not the subsequent consequences.
In order to be realised from liability from following the instructions of the parent company and considering the interests of the affiliated group as a whole, the following conditions must be met: first, there exist group relations; second, it is clear that action in questions was carried out in the interest of the affiliated group as a whole (not just in the interest of the parent company); and third, it was a quid pro quo transaction. The exception does not include situations where the transaction is carried out at the expense of an insolvent subsidiary or when the transaction results in the insolvency of the subsidiary.
The facts of the second case were the following: shareholders requested from the court that a special audit would be carried out which would determine whether the management board members of the company had caused damage to it. In its decision the court made two important points. First, it is not necessary to provide evidence of the existence of damage in order for the court to be able to prescribe a special audit. It is sufficient when the requester of the special audit can justify its suspicion that damage to the company has occurred. And second, a shareholder of the parent company has the right to request a special audit also in connection to the other companies in the affiliated group. The affiliated group cannot be used as a mechanism to hide the activities of the subsidiaries from the shareholders.
As can be seen from the above-described court decisions, the court has started to interpret the Estonian Commercial Code in a broader manner when analysing the liability and rights of the board members and shareholders in an affiliated group, by emphasising the nature of the affiliated group as a whole. These recent decisions are an important milestone in the development of the Estonian commercial law and provide guidelines for future decisions.
The article by LINKLaw lawyer Kaisa Üksik was published in web magazine Raamatupidamisuudised Pluss no 1, 2016 and is available in Estonian at http://rup.ee/raamatupidamisuudised/luhikokkuv-tted/riigikohus-klaaris-kontsernisiseseid-suhteid and www.rup.ee/pluss.