The Legal Responsibilities of Board Members Can be limited / minimized within the frame work defined in Company Directive
The Legal Responsibilities of Board Members Can be limited / minimized within the frame work defined in Company Directive
The basic regulation regarding the legal liabilities of the members of the board of directors that may arise from the breaches of their obligations originating from the law or the articles of association is stipulated in Article 553 of the Turkish Commercial Code titled “Liability of the Founders, Board Members, Managers and Liquidators”. The relevant article is as follows:
“(1) Founders, members of the board of directors, managers and liquidators are liable for damages to both the shareholders and the creditors of the company if they breach their obligations arising from the law and the articles of association.
(2) The bodies or persons who delegate a duty or authority arising from the law or the articles of association on the basis of law shall not be responsible for the acts and decisions of such parties unless it is proved that they did not select the parties taking over these duties and powers with due care.
(3) No one shall be held liable for any breaches of law or articles of association or other acts of corruption beyond their control; this non-liability cannot be overridden on the basis of the obligation of supervision and duty of care”.
On the other hand, TCC Art 369 regulates the board members’ duty of care regarding their performance, and TCC Art. 557 regulates the differentiated joint and several liability principle to be applied in the assessment of the damages arising from the breach of obligations.
In this article, we will focus on the “differentiated joint and several liability principle,” – an important concept introduced by the Turkish Commercial Code No. 6102, which has brought many innovations to corporate law. In summary, according to this principle, joint and several liability arises for the damages incurred, and those who are liable for the damages other than the damages that are jointly incurred are held liable only for the damages they have caused alone.
To briefly mention the previous regulations; in the previous Turkish Commercial Code, the range of liability of the board members of the joint stock company was quite wide. The liability of the members of the board of directors and managers was interpreted broadly in line with the principle of “absolute liability.” Accordingly, even if there was a responsible manager, the board member or manager could still be held liable for the slightest problem in the company. Detailed explanations of the differentiated joint liability principle are given below.
According to Article 557 of the Turkish Commercial Code, the differentiated liability is defined as the fact that each of the persons who have caused the same damages should be jointly liable for the damages. In this case, pursuant to the principle of “reasonable causality,” each board member will be liable for the damages as much as s/he would have been liable if s/he had caused the damages alone. The basic principle here is that everyone is only liable for the damages caused by them according to the reasonable causal connection. In this respect, the liability of the person in the external relationship is determined by their faultiness, and the amount of the responsibility is determined by the degree of fault and the circumstances of the case.
The provision of Article 557 is as follows:
“ (1) Where more than one party is liable for the compensation of the same damages, each of the liable parties will be jointly and severally liable for the compensation to the extent that liability can be attributed to that party according to fault and in the circumstances of the case.
(2) The plaintiff may sue more than one liable party together for the full amount of the damage and ask the judge to determine the amount of compensation due by each defendant in the same case.
(3) The judge shall make a decision regarding application to more than one liable party by considering all circumstances of the case. “
According to the first paragraph, the criteria for determining the extent of the fault in the external relationship and the amount of compensation due are “the degree of fault and circumstances of the case.” Third paragraph of the same article states that the criteria for the calculation of the amount of compensation due in the internal relationship are the assessment of “all circumstances of the case.”
The specifications regarding the concept of differentiated joint and several liability that has been introduced by the relevant article to our law are explained below.
a. Jointly Caused Damages:
In order for the differentiated joint liability may be possible, more than one party must be liable for the damages. As a rule, jointly caused damages arise when the damages are incurred as a result of the execution of the decision of the board of directors or of the failure of the board of directors to fulfill their duties in full and/or as required, or the failure to fulfill any of their duties.
If the damages occur as a result of the decision of a single board member, then the board member who has taken the decision by himself or herself shall be liable alone, and joint liability will be out of question. Since there is no causal link between the members of the board of directors who have not taken the decision causing the damage and consequently are not connected to such decision, there will only be individual liability. Even if the plaintiff claims in court that all the damages are “jointly caused” by one or more than one defendant, the court shall first ex officio make a distinction between “same damage – jointly caused damage” and “individually caused damage” even without the plaintiffs request.
b. Degree of fault:
Each member of the board of directors who are liable for the damages may evoke individual reasons of extenuation, i.e. the degree of fault and the circumstances of the case. In such case, the board member in question shall be liable not for the entirety of the damage, but only for the portion attributable to them.
As a matter of fact, in the case at hand, the judge determines the amount of compensation the board member will pay according to the fault of the board member and in consideration of the circumstances of the case.
TCC Art. 553/3 states that in order for the liability to arise, the act constituting the liability must be executed within the control of the liable party. The same provision stipulates that if the event that gives rise to liability falls outside the control of that party, they may not be held liable even if the obligation of supervision and duty of care of the said person are evoked. This provision imposes a limitation on the obligation of supervision and duty of care. As a matter of fact, it is stated in the preamble of the code that it is intended to prevent the members of the board of directors from being held liable on the basis of an abstract duty of supervision.
TCC Art. 553/2 states that in the case which the board of directors has exercised its power of delegation arising from law or the articles of association and delegated its duties and powers, the liability falls upon the delegates taking over these powers and duties, and the liability of the board of directors is limited to “exercising due care in selecting the parties”. Thus, a concrete limitation principle has been set for the liability of board members.
- Using the standard of “due care of a cautious manager” for the determination of fault: The principle of “prudent businessman” applied pursuant to TCC No. 6762 by Court of Cassation and Council of State as a measure of due care required for the members of the board of directors while performing their duties has been replaced by the principle of “due care of a cautious manager” in the new TCC No. 6102. This measure determines whether or not the board members have acted with fault while they were performing their duties. Because TCC Art. 369, the members of the board of directors are obligated to carry out their duties with the due care of a cautious manager and to protect the interests of the company in accordance with the principle of good faith. The aforementioned provision puts the members of the board of directors who perform their duties with the due care of a cautious manager under the obligation to protect the interests of the company in accordance with the principle of good faith. However, it should be noted that the due care expected of the board member does not exceed the due care that a cautious manager exhibits in similar situations. In the preamble of the TCC Art. 369, it is stated that the standard of cautious manager is based on the recognition that a board member can make a “business judgment” (business judgement rule) in accordance with the corporate governance rules, and that the board member is not held liable in the cases where a risk arises from this judgment. Moreover, the preamble also states that it is possible to make the duty of care heavier within the scope of the contract to be concluded between the joint stock company and the member of the board of directors and in this case the liability may be expanded. The aforementioned article emphasizes the protection of the company’s interests based on the principle of good faith.
c. The effect of the transfer of management on liability
The members of the board of directors who have delegated their duties and powers arising from the law or the articles of association to others parties on the basis of law will not be held liable for the actions and decisions of the delegates except in cases where it is proven that the board member did not show reasonable care in the selection, supervision, instruction, and, when necessary, dismissal of the parties taking over these duties and powers. In other words, the transfer of authority serves as the transfer of liability.
However, with the new regulation included as the seventh clause to TCC Art. 371, the board of directors is held jointly liable for the damages to the company and third parties caused by commercial agents and commercial auxiliaries. Art. 371/7 “In addition to representatives set out above, Board of Directors may appoint board members without representative powers or persons who have a contract of employment with the company as a commercial agent with limited powers or as other commercial auxiliaries. The duties and powers of the persons to be appointed in this manner shall be clearly specified in an internal directive that will be prepared according to Article 367. In this case, registration and announcement of the internal directive is mandatory. Commercial agents and other commercial auxiliaries may not be appointed by an internal directive. Commercial agents or other commercial auxiliaries who are appointed pursuant to this paragraph shall also be registered with the Trade Registry and announced. Board of Directors will be jointly and severally liable for all damages caused by such persons to the company and third parties.“
d. Responsible persons
Pursuant to aforementioned TCC Art. 553, the members of the Board of Directors, are liable for any damages they cause to the company, shareholders and creditors of the company (interested third parties).
The company and each partner may claim compensation for the damage suffered by the company. However, the partners may only claim for the compensation to be paid to the company, and may not claim it to be paid to them. In the event of the bankruptcy of the company that has incurred damages, the right to claim compensation to be paid to the company belongs primarily to the bankruptcy administrator. The right to claim compensation shall be limited by the statue of limitations to two years from the date on which the plaintiff learned the damages and the liable person, and in any case five years from the day the act that caused the damages occurred.
The person who claims that the member of the board of directors has acted in fault and did not exercise due care in the performance of his obligations shall prove his claim. In case of a possible conflict, the burden of proof of the fault in the second paragraph of TCC Art. 553 shall be borne by the plaintiff. In other words, as plaintiffs, the company, shareholders and creditors shall be obliged to prove the fault of the relevant board member who is the defendant.
In order to shed light on the differentiated joint and several liability, the following simplified example may be useful:
For example, in a Board of Directors consisting of five members, if the total damages caused by these members to the company is 100,000 Turkish liras, and 50,000 Turkish liras of this sum have been paid together by five persons; and if 20,000 Turkish liras of the remainder is attributable to member (A) and 40,000 Turkish Liras is attributable to member (B) alone, five members will be jointly liable for 50,000 Turkish liras and A and B will also be liable alone from the remainder for the amounts attributable to them .
The differentiated joint and several liability introduced by TCC Art. 557 provides a way for the assessment of the degree of fault asserted in the internal relationship to be also asserted in the external relationship. In accordance with the differentiated joint and several liability principle, the members of the board of directors may be freed from full joint liability by asserting that the degree of their fault is different, and may be sentenced to pay compensation only to the extent of their own fault. Unlike the full joint liability adopted in the old TCC, it is the creditor (the plaintiff), not the debtor (the defendant board members) who will bear the outcome of the differentiated joint and several liability. By adopting this principle, the legislator chose to make the burden fall on the creditors (the plaintiff).
Differentiated joint and several liability principle has been criticized in the doctrine on the grounds that it has many drawbacks. According to one of the criticisms, the differentiated joint and several liability is not a fair system in itself for if a grievance occurs, in terms of persons working together in a board, it would be more equitable if the burden fell on the board members. Besides, the injured party is ultimately without fault, and the board members are more or less at fault. Again, according to one of the criticisms in the doctrine, the differentiated joint and several liability should be specifically applied in cases where the plaintiff is not the injured party at all. If the plaintiff were the injured party because of an impossibility or difficulty of payment, it would be more appropriate to apply full joint liability.
Although the differentiated joint and several liability principle introduced by the TCC is not yet very well known, and there is no established case-law on this issue yet, we predict that this principle will be explored in doctrine and in judicial decisions in a number of areas including compensation of liabilities arising from public receivables.