For the last couple of years the issue of attracting foreign investments into Ukraine has loomed large. However, attracting such investment is hardly possible without creating the proper investment climate and implementing necessary reforms. One necessary step is transforming Ukrainian corporate law.
In the article below we will briefly compare the Ukrainian model of corporate governance with relevant models across the European Union. We also provide examples of recent developments in Ukrainian corporate legislation aimed at adapting it to the legislation of the EU.
Board Structure: One-Tier or Two-Tier Model?
It is commonly known that board structures, on the whole, can be divided into two groups: One-Tier and Two-Tier boards. Under a one-tier board the shareholders directly appoint the management board which is responsible to them. Under a two-tier board the shareholders appoint a Supervisory Board, or Non-Executive Directors, which, in its turn, forms the Board of Directors (Executive Directors), to actually manage the company. Executive Directors are responsible to the Supervisory Board and/or to the shareholders, if the articles of association so provide.
There is no unified approach to board structures in the European Union. Some member states, such as Germany, Poland, Austria, and the Czech Republic, make the two-tier model mandatory, whereas in Great Britain, Spain, and Sweden only one-tier boards exist. The majority of member states, however, allow for a choice between the two models. The same approach is reflected in the Council Regulation (EC) No 2157/2001 of 8 October 2001 on the Statute for a European company (SE), which introduces the concept of a common legal entity across the EU.
Ukraine is one of the countries that provides for flexibility between one-tier and two-tier boards in joint-stock companies. According to the Law of Ukraine “On Joint-Stock Companies”, the Supervisory Board must be created only in those companies where there are 10 or more shareholders. Members of the Supervisory Board, should such a corporate body be created, are appointed and dismissed by the shareholders. The Executive Directors are appointed and dismissed by the Supervisory Board, provided this is not set out as the competency of the General Meeting of Shareholders in the company’s articles.
In addition, Ukrainian corporate law provides for a special body – a board of auditors – which supervises the business activities of the company. The board of auditors is appointed and dismissed by shareholders. Although the board of auditors is not very common among EU jurisdictions, the corporate body can be created according to corporate legislation of Italy and Portugal. In Ukraine, creation of the board of auditors falls within shareholder discretion in joint-stock companies, whereas limited liability companies are required to create such boards, according to effective legislation.
Shareholder Influence on the Company Board
Shareholder influence on the company board may be of big importance in terms of management of the company. Changing the board composition ad hoc may make the company more vulnerable to outside pressure, including pressure from shareholders who are only interested in short-term gain.
In April 2013 the London School of Economics published a Study on Director Duties and Liability prepared for the European Commission, where all EU member states were categorized into one of three groups depending on the right of shareholders to dismiss members of the board.
The countries classified into the first group provide maximum protection to the board. The laws of such countries do not allow shareholders to dismiss executive directors before the end of their terms in office without reason. Germany, Austria, Poland, Estonia, and Latvia are among the countries falling into this group.
The jurisdictions included into the third group, by contrast, provide shareholders with the widest authority for board dismissal. Under the laws of such countries, shareholders may dismiss a member of the board any time without reason. In addition, companies in such countries are more shareholder-centric and do not provide for an employee representative on the Supervisory Board. Italy, Spain, Portugal, and Cyprus have chosen this approach.
The second group consists of those countries, such as France, Sweden, the Czech Republic, and Slovakia, which cannot be easily classified either into the first or third groups.
In our view, Ukraine should also be assigned to the second group. Under the two-tier board structure, the General Shareholders Meeting can terminate the authority of any member of the Supervisory Board at any time without reason. At the same time, grounds for dismissal of Executive Directors may be established by law, a company’s articles of association, or by contract with an Executive Director. The authority of an Executive Director can be terminated by the Supervisory Board or by the General Meeting of Shareholders where the articles of association so provide.
At the same time, Ukrainian legislation does not provide for an employee representative on the Supervisory Board of a company, and, therefore, it is more shareholder-oriented.
Recent Developments in Ukrainian Corporate Law
On 1 May 2016 the Law of Ukraine “On Introduction of Amendments to Certain Legislative Acts of Ukraine Regarding Protection of Investors' Rights” No. 289-VIII dated 7 April 2015 came into effect. This law, in particular, introduces the notion of a derivative claim. This instrument allows shareholders to file a claim in the interests of a company against its management for damages suffered by the company as a result of management actions or failures to act. Any shareholder who holds at least 10 percent of the regular shares of the company is entitled to file such a claim. The same threshold – the highest in the European Union – also exists in, among others, Austria, Sweden, and Greece.
Ukrainian law does not provide for any additional requirements in order to file a derivative claim – it is sufficient to concentrate the minimum amount of shares required. The same approach has been adopted in most EU member states.
Squeeze-Out / Sell-Out
The draft law “On Introduction of Amendments to Certain Legislative Acts of Ukraine with respect to Stiffening the Level of Corporate Governance in Joint-Stock Companies” was registered in the Ukrainian Parliament in May 2015. This draft law proposes to introduce squeeze-out and sell-out mechanisms into Ukrainian corporate law. These instruments are envisaged, in particular, by Directive 2004/25/EC of the European Parliament and of the Council of 21 April 2004 on takeover bids, and aims to protect the rights of minor shareholders in the course of takeover procedures.
If the draft law is adopted, minor shareholders will be entitled to require a shareholder who has concentrated 95 percent of the shares to buy their shares as well at an equitable price (i.e., a “sell-out”). The shareholder who concentrated 95 percent of the shares, in turn, may also require minority shareholders to sell their shares to him (i.e., a “squeeze-out”).
The Ukrainian model of corporate governance combines the features of various European jurisdictions.
Ukrainian legislation, just like the legislation of most EU member states, allows for a choice between one-tier and two-tier board structures. Ukraine’s Corporate law also provides for a specific corporate body: a board of auditors. Although not typical across the EU, a similar corporate body can be created in companies subject to Italian and Portuguese laws.
Whereas the Supervisory Board of Ukrainian companies is wholly dependent on shareholder will, and shareholders may remove Non-Executive directors before the end of their term with no reason, the Board of Directors enjoys higher degree of insulation. The grounds for termination of Executive Director authority are envisaged by law, the articles of the company, or the terms of the relevant contract with an Executive Director.
Corporate law of Ukraine continues to develop. This is connected with implementation of the Association Agreement between Ukraine and the European Union. The notion of a derivative claim was introduced this year, and a draft law introducing squeeze-out and sell-out mechanisms in the course of takeover procedures is now being considered by the Ukrainian Parliament. All these recent developments gradually approximate Ukrainian law to the standards of the European Union, which will have a positive effect on the investment attractiveness of Ukraine.
By Artem Frolov, Lawyer, Alfa-Bank Ukraine