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The parent company’s right to issue instructions

Publication date: 15 February 2018
When issuing instructions to the directors of a subsidiary, a holding company has to observe not just the interests of the group as a whole but also the interests of the subsidiary. Directors of the subsidiary have their own responsibilities and may reject instructions that might jeopardize their firm’s survival.

corporate governance

Each company has the statutory requirement to promote its own interests. Consequently, companies from the same group may have conflicting interests in certain situations. What does this mean for the permissibility of instructions issued by a parent company to a subsidiary? Can a parent company impose on a subsidiary to provide an intragroup guarantee?

The right to issue instructions

The management of the parent company can influence the policy of a subsidiary by providing in its articles of association that the management of the subsidiary has to observe the instructions issued by the general meeting of shareholders. This will allow the parent company as sole shareholder to issue instructions. It can also suspend disobedient directors via the general meeting of shareholders and in that way influence the policy of the subsidiary.

The right to issue instructions and shareholders

The right to issue instructions is not unlimited however. The general meeting of shareholders may not exceed the limits of its tasks and authorities, since it would otherwise take the place of the director. Besides it could result in personal liability of the shareholder. In short: the management of the company remains the domain of the management.

The content of the instructions is also restricted. For instance, it is not acceptable that the survival of the subsidiary will be seriously jeopardized as this would be opposed to the interests of the company. An example of this are instructions regarding financially irresponsible dividend payments.

The right to issue instructions and directors

The directors of the subsidiary have their own responsibility for observing instructions. They don’t have to blindly follow them but have to keep in mind the interest of both the company and the group as a whole.

Company interests

The main interest of a company is to maintain the company’s well-being. Directors have the task to protect and promote the success of the company. If they don’t do so, they perform their duties improperly. This could concern, for instance, actions that can be predicted to jeopardise the company’s future, such as instructions for dividend payments whereas the financial situation of the company does not allow for this. In that case, the directors will be personally liable for the damage sustained by the company or third parties.

Group interests

However, in group-relationships there is also another interest involved: the interest of the group as a whole. Directors of subsidiaries must be guided by the group interest but must not waste the interests of their “own” company.

These interests will often coincide, but the directors always have to evaluate the interests properly.

Intragroup guarantee permissible?

Instructing a subsidiary to provide an intragroup guarantee is permissible if it doesn’t jeopardise the survival of the subsidiary.

In practice, it will not occur easily. Usually, a subsidiary will benefit from observing the respective instructions

In an intragroup guarantee other companies have to provide a guarantee for the subsidiary too. Because of this, all group companies will benefit from a bigger credit margin and risk spreading. Thus, it will be helpful to the interests of the group and the interests of the company. And therefore, such instructions are permissible and the subsidiary will, in principle, have to observe them.

Tips

  • Lay down the right to give instructions in the articles of association of a subsidiary.
  • As a director, evaluate the interests properly and lay down this evaluation.
  • Consult a lawyer to find out whether following instructions gives rise to personal liability as a director.

More information

Would you like to lay down the right to issue instructions in the articles of association? Would you like to learn when to reject instructions? Or would you like to learn more about your tasks, authorities and liability as a director? Please contact us at:

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