In the field of limited liability companies, the subject of transactions between directors and the company itself is frequently discussed. In fact, this is an area rich in conflicts of interest, given the risk of directors obtaining advantages to the detriment of the interests of the companies that they administer.
For this reason, the law establishes a special scheme applicable to legal transactions between a company and its directors, subjecting them to stricter rules than those that govern transactions between third parties.
In general terms, corporate law defines three categories of transactions between directors and companies:
- prohibited transactions;
- transactions permitted by means of compliance with procedural requirements; and
- free transactions.
(i) Prohibited transactions
The company is absolutely prohibited from granting loans or credit to directors, from making payments on their account, from providing guarantees for obligations they have incurred and also from granting advances of more than one month on remunerations.
This being the case, the law establishes a general prohibition of any acts falling within the category of contracts through which the company grants a current advantage to the director, in return for a future position.
The prohibition is therefore established, under penalty of nullity, on credit agreements in a broad sense, whenever the parties thereto are the company and one of its directors.
(ii) Transactions permitted by means of compliance with procedural requirements
There is a second category of transactions that are permitted, by means of compliance with certain requirements. Indeed, between prohibited transactions and transactions freely entered into (which we will deal with next), are transactions which require the prior consent of the board of directors and a favourable opinion of the supervisory board or audit committee (depending on the structure of the company in question).
Naturally, with regard to the requirement of a resolution of the board of directors, the director with an interest in the transaction must refrain from voting, due to their potential interest in conflict with that of the company.
The two conditions referred to above are cumulative, for which reason both the omission of authorisation granted by a resolution of the board of directors and the failure to obtain the assent of the supervisory body imply the invalidity of the transaction entered into.
Furthermore, this category includes not only transactions entered into directly between the company and the director, but also contracts in which the director participates through an intermediary. In this context, apart from the spouse of the director, people of whom the director is the presumed heir and any third party who may transfer to the director the right received from the company, any individuals or legal entities close to the director in question, over which the director may hold influence, must also be considered included.
Likewise, the law also extends this legal regime to transactions between a director and companies that are controlled by or in the same group as the company administered, subjecting them to identical treatment.
In cases in which the company’s management body corresponds to a sole director, the general meeting must be called on to intervene, in which case, besides the favourable opinion of the supervisory body, a resolution of the shareholders authorising the transaction in question is required.
It must also be noted that the board of directors must, for reasons of transparency and access to information, specify in its annual management report the authorisations that it has granted for transactions between directors and the company, as well as references to the corresponding opinions rendered by the competent supervisory body.
(i) Free transactions
Finally, the law also establishes a category of transactions deemed fully permitted and which do not require compliance with any procedural requirements: transactions included in the actual trading of the company and which do not entail any special advantage for the director party to the transaction.
The actual trading of the company is deemed to include transactions that are part of the activity pursued by the Company, in other words, that are part of its corporate purpose.
Moreover assessment of the concept of “special advantage” that the transaction brings the director depends on the conditions in which it is entered into – if the transaction is entered into in conditions identical to those applicable to any third party entering into a transaction of the same type with the company, it is confirmed that it was entered according to “market practice” parameters, in which case there is no special advantage.
Despite the practical difficulties that the definition of “market practice” may offer, this reinforces the aim of preventing the transaction in question from benefiting the director to the detriment of the company.
The case of private limited companies
Unlike the situation with public limited companies, no mention is made in the regulations governing private limited companies of contracts entered into by the company and its directors.
In this context, there is discussion as to whether the stipulations for public limited companies are applicable to this type of company, by analogy and duly adapted, or whether, on the contrary, these rules are inapplicable, private limited companies not being governed by any particular scheme.
Despite some controversy, both a majority of writers and case law appear to agree with the second opinion, sustaining the position that in private limited companies there are no specific limitations on contracts between the companies and their directors, other than those deriving from the general duties of care and loyalty that are incumbent in general terms on the members of the board of directors.
The reason why the law envisages a somewhat restrictive scheme for legal transactions between a company and its directors is understandable, given that it is precisely these directors, the members of the board of directors, who take the decisions as to whether the company should enter into a particular transaction, who bind the company when entering into such a transaction, and who execute transactions on behalf of the company.
This scheme corresponds essentially to a reinforcement of the duty of loyalty to which directors are subject, having been drawn up with the clear purpose of ensuring that the company’s interests are placed above the personal interests of the directors.
To ensure the governance of public limited companies, transactions between the company and any of its directors must be considered in one of the three categories identified above – this is the only way to verify their validity and, if justified, to implement the necessary measures for them to go ahead in accordance with applicable law.