Risks of being a top-manager: personal assets under threat

It may seem that such a situation is unlikely in Ukraine. Despite the fact that civil legislation of Ukraine has for a long time stipulated that governing bodies of a legal entity must act in its interests, in good faith, reasonably and not to exceed their powers, until recently there were no direct provisions that would allow the director to be held personally liable for the obligations of the company he represents.

What has changed in Ukraine?

With the passage of the Law on Limited and Additional Liability Companies in 2018 and Bankruptcy Procedure Code in 2019, company executives became personally liable and could stand to lose their property. Now, any signature of the top manager can cost him not only his position in the company, but can also become a basis to sue him with a fair sum of money.

So what do executives need to know?

In general, a director (in some cases all members of the board of directors) may be held jointly liable for the company’s debts. Grounds can include misleading the owners of the company about the company’s financial standing, which led to illegal dividends distribution or a failure to initiate bankruptcy procedures with the court in a timely manner after the threat of the company’s insolvency appeared.

Violation of the procedure for effecting significant and related-party transactions may also be a ground for a director’s liability for damages caused to the company. Debts for which the director will be liable are not limited to a specific amount or threshold, and can apply to any debt for any creditor.

If a few years ago it was quite problematic to prove the infliction of damages, now the case law is changing in favour of the company. Nowadays, judges hold the position that it is the director who should pay enough attention to all the processes that take place at the enterprise.

Another important innovation is the obligation of the director or the management board to inform the owners of the company about a decrease in the value of the company’s net assets by more than 50% compared to the previous year. A violation of such an obligation, in the event of bankruptcy of the company within the next three years, entails director’s subsidiary liability for the obligations of the company. Subsidiary liability means the additional liability of the director to the company’s creditors in case the company is not able to fulfill all of its obligations with its own assets.

What can an executive do to minimize the risks of liability for company’s debts?

Our recommendations are quite simple:

1. To personally control key financial indicators of the company such as the value of net assets, the ratio of current assets and current liabilities or to correctly organize the distribution of this authority to other company’s officials.
2. In case of reduction of net assets, convene a general meeting of participants within the period specified by law and to initiate measures to improve the financial condition of the company, to reduce authorized capital or to liquidate the company.
3. To study one’s own employment contract, company charter and other internal regulations in order to understand and to comply with the limitations of authorities prescribed by law and/or by the internal documents of the company. This refers to, inter alia, significant and related-party transactions, non-disclosure and non-compete clauses, etc. Just remember that even if the charter does not directly prescribe limitations of director’s powers, such limitation (and respective consequences) may still apply by virtue of the law.
4. To act instead of demurring. Reporting to the owner may potentially be an unpleasant process, but it will be even more unpleasant to be liable for the company’s debts. When in doubt as to whether a company should file for bankruptcy or should convene an extraordinary meeting of shareholder, this should be done.
5. To insure the responsibility of the executive. Undeservedly uncommon in Ukraine, the institution of corporate liability insurance for officials can be a guarantee of external coverage not only of the claims from creditors, but can also serve as source of payment for legal and expert fees in the process of litigation with creditors.

The trend of increasing the responsibility of top-managers for company’s debts is progressing and executives need to be prepared for significant new obligations and potential risks and, in parallel, can request higher remuneration or additional benefits for taking their role.