Modernization of Corporate Governance Rules for Unregulated & Unlisted companies

Corporate governance has become a hot topic, both for professionals of the financial sector supervised by the Luxembourg financial sector regulator and for companies with shares listed on a regulated market. In recent years significant progress has been made in the quest for an optimal balance between performance and the control and prevention of risks.

For unregulated holding companies that are not listed on a regulated market of the Luxembourg Stock Exchange, corporate governance rules are much lighter but have recently been enhanced by the law of August 10, 2016 (the “Law”), which has modernized company law in Luxembourg.

The Law (i) introduces a new form of company, the société par actions simplifiées (“SAS”) characterized by greater contractual freedom for corporate governance rules. In contrast, rules applicable to public limited liability companies (“société anonyme” or “SA”), (ii) allow for more flexibility in SA and private limited liability (“société à responsabilité limitée” or “Sàrl”) so as to retain the pragmatism applicable to these companies and (iii) establishes more transparency and control with increased responsibilities for managers and directors.

1) A new form of company, the société par actions simplifiées (SAS)

The Law introduces a new form of company, the SAS, which is subject to the same rules as the SA but is characterized by greater contractual freedom. For instance, the corporate governance rules can be freely determined by the shareholders, who decide how management is to be used and organized within the company. The Law has set only one rule, the choice of a president, who shall represent the SAS vis-à-vis third parties.

The president has the widest power to act, in any circumstances, in the name of the SAS and within the limits laid down by its corporate object. However, the articles of association can lay down the conditions under which several persons other than the president may exercise the powers entrusted to the president. The deliberate choice of total contractual freedom for the corporate governance of SAS entails significant risk for its President, who remains liable for management operations.

2) More flexibility in SA & Sàrl, & codification of existing practices

The Law also modernizes the governance of the two most common forms of holding companies, the SA and the Sàrl, by improving and embedding existing practices into a set of written rules so as to provide more legal certainty and clarification. The codification of practices enshrined in the Law brings accurate legal certainty.

Thus, the Law expressly legitimizes the existence of general directors (directeurs généraux) and management committees (comités de direction) present in a certain number of SAs, by recognizing the possibility for the board of directors of an SA to delegate management powers to general directors and management committees under its supervision and control provided that (i) such possibility is foreseen in the articles of association, (ii) the general strategy is still defined by the board and (iii) the individuals benefiting from a delegation are subject to the same liability risk as directors. The control function over the general directors and management committees is important: it is only through the board of directors and its management report that the shareholders are informed of the manner in which the executive committee fulfills its tasks. The Law also formalizes the existence of special advisory committees of the board, (e.g. an audit and risk committee, strategic or investment committee, HR committee, etc) whose powers shall be defined by the board of directors.

As opposed to entities regulated by the CSSF, the Law does not place a restrictive framework on the management board of SAs and Sàrls that are holding companies.

For instance, there are no specific criteria to be met in order to be selected as a board member or an authorized manager/director, nor are there any regarding the number of independent directors at board level, the board’s selection of persons in charge of the day-to-day management and how their tasks are controlled, the number of times per year the members of boards shall meet in order to monitor the development of the company’s activities, the remuneration policy of managers and directors, etc.

For both the SA and Sàrl, the Law formalizes the existence of a long-established practice widely used in most Luxembourg holding companies: adopting decisions by written resolutions and not only on the occasion of a physical meeting of the board of directors or managers. This possibility must be foreseen in the articles of association of the concerned company. However, despite this legal recognition, the potentially adverse impact of circular resolutions on the corporate governance and tax substance needs to be considered from time to time in light of the applicable circumstances.

3) More transparency & control with increased responsibilities for managers & directors

Regarding conflict of interest, the key change is the extension of the conflict of interest regime beyond the members of the board of directors and the supervisory board of SA to persons in charge of the day-to-day management, general directors and members of management committees, as well as liquidators of an SA and managers of a Sàrl. It also clarifies the nature of the conflicting interest, which shall be limited to “patrimonial” interest (i.e. linked to a financial interest) but can be direct or indirect.

Thus, the Law expressly legitimizes the existence of general directors (directeurs généraux) and management committees (comités de direction) present in a certain number of SAs, by recognizing the possibility for the board of directors of an SA to delegate management powers to general directors and management committees under its supervision and control provided that (i) such possibility is foreseen in the articles of association, (ii) the general strategy is still defined by the board and (iii) the individuals benefiting from a delegation are subject to the same liability risk as directors. The control function over the general directors and management committees is important: it is only through the board of directors and its management report that the shareholders are informed of the manner in which the executive committee fulfills its tasks. The Law also formalizes the existence of special advisory committees of the board, (e.g. an audit and risk committee, strategic or investment committee, HR committee, etc) whose powers shall be defined by the board of directors. However, the Law remains silent with regard to any specific ethical rules applicable to members of the management board and the manner in which they shall perform their functions as directors or managers and respect their duty to act competently, diligently, independently and in good faith. Each manager/director shall represent the company and the shareholders as a whole and shall make decisions solely in the company’s interest and independently of any conflict of interest between the company and one or a group of shareholder(s). The mere duty to ensure that the long-term vision that has guided the initial investment in the company is respected does not exonerate the directors/managers from a permanent examination of and duty to act in the best corporate interest of the company. On some occasions, they can acceptably deviate from the company’s original business plan or course of business or from the immediate interest of a given shareholder if the corporate interest of the company justifies it.

This increased liability is particularly true for directors of an SA who are under specific reporting obligations to the shareholders in some specific cases. For example, if following losses, the net asset of the company falls under 50 percent of the share capital directors have to publish a detailed report in which they explain the situation and the correcting measures to remedy the situation.

In the case of transactions that are deemed to be financial assistance, the board of directors must also prepare a written report for the general meeting of shareholders to explain why the proposed transaction is necessary, why it is in the corporate interest of the company, and the liquidity and solvency risks.

The Law also grants additional powers to and reinforces the rights of minority SA and Sàrl shareholders holding less than 10 percent of the share capital.