Emergency legislation for companies and other legal entities

Tax & Legal Alert | PwC Hungary | April 16, 2020

On 10 April 2020, Government Decree No. 102/2020 (IV.10.) (“Decree”) was published in the Hungarian Gazette. The Decree designates the framework for the operation of companies, associations (‘egyesület’), foundations (‘alapítvány’), cooperative societies (‘szövetkezet’), condominiums (‘társasház’), public bodies (e.g. chambers) and other legal entities for the duration of the state of emergency. The Decree is effective from 11 April 2020, but in respect of certain issues it also affects events between the declaration of the state of emergency and the Decree’s entry into force.

• The Decree provides alleviation to legal entities to remain operational during the state of emergency, avoiding personal contact; however, the applicability of these provisions should be examined on a case-by-case basis.
• As a general rule, the decision-making bodies of the shareholders and members of the legal entities (shareholders’ meeting, general assembly) are still entitled to make decisions within their competence; however, if it is not possible to do so in accordance with the special rules of the Decree, certain powers are transferred to the management.
• The Decree requires increased attention from management teams to ensure compliance with the law.
• During the state of emergency, the possibilities of electronic communication available to the shareholders (members), bodies and officials of legal entities have been expanded.
• The Decree leaves open or does not address several issues affecting the operation of legal entities. Therefore, increased attention is needed to ensure that each legal entity operates in accordance with the law.

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Three-step test in decision-making and the distribution of powers

The regulatory logic of the Decree in essence is to first examine in a two-step test whether the decision-making body of the shareholders (members) of a legal entity (shareholders’ meeting, general assembly, sole member, etc.) is able to make decisions within its competence under the current circumstances; then, in the third step it regulates extended management decision-making capabilities. If a decision-making body is not able to make decisions based on either the first or the second step, then some of its powers, with important limitations, will be transferred to the management.

Step 1: compliance with lockdown measures

As a first step, it must be examined if the decision-making body is able to make decisions under the lockdown measures and restrictions. If the answer is yes, the decision-making body will be required to make its decisions in conformity with the "normal" rules that apply regardless of the state of emergency. It is also important to emphasize that the performance of tasks arising from being a shareholder or a member in a legal entity does not qualify as work that constitutes an exception from the lockdown restrictions. Therefore, this step mainly concerns single-shareholder companies, foundations with a single founder and family businesses operating as companies in which a company’s shareholders live in the same household. It must also be examined whether the participation of any other person (e.g. a managing director) in a meeting is obligatory under the provisions of any legislation or the deed of foundation of the legal entity concerned.

However, a legal entity in this category may also apply the Decree's provisions that facilitate the operation of other bodies in the legal entity (such as a management body) and communication between the shareholders, members and the legal entity as well.

Regarding the examination under this first step, it is also important to draw attention to the following:

• if it is possible to make decisions in compliance with the lockdown restrictions, but the legal entity makes its decisions under the special rules of the Decree; or
• if the decision-making body of a legal entity violates the lockdown restrictions (e.g. shareholders (members) living in different households meet in person and adopt a resolution of the shareholders’ meeting or general meeting) when making decisions,

the decisions thus made are in violation of the law, and the eligible persons and bodies may initiate court proceedings against such decisions. It is important to emphasize that the scope of the Decree may only apply to the observance of the Hungarian lockdown measures, i.e. a decision of the shareholders’ meeting will not be invalid if all the shareholders living in the same household are abroad and meet there to hold a shareholder’s meeting.

Step 2: technical and other objective conditions

Even if holding a meeting in person is not possible for a decision-making body under the lockdown restrictions, the decision-making powers will not be automatically transferred to the management. In this case, the meeting of shareholders (members) in person is clearly prohibited, even if such a meeting has been convened earlier. For this case, the Decree provides, as a second step, the following two alternative methods to the decision-making bodies of legal entities:

• decision-making by means of electronic communication or
• decision-making without holding a meeting in person (i.e. postal voting).

These alternatives have so far been available to legal entities, but according to the legislation in force outside the state of emergency, they can only be applied if they have been regulated in detail by the deed of foundation of the legal entity concerned. However, the Decree introduces relaxation in two directions: on the one hand, if the deed of foundation does not provide for such options at all, and on the other hand, if the deed of foundation regulates these forms of decision-making in derogation of the Decree, legal entities may apply the rules of procedure set out by the Decree without an obligation to amend their deeds of foundation.

The frameworks of such decision-making methods are designated by the detailed rules of the Decree and the task of establishing the actual applicable rules (e.g. the types of electronic communication devices or internet application that may be used) and communicating it to shareholders is imposed on management teams.

The Decree makes the requisition of these decision-making methods conditional on further conditions, differentiating on the basis of the number of a legal entity’s shareholders (members):

• in the case of a legal entity functioning with 5 shareholders (members) at most, these decision-making methods may be used if decision-making is expected to be ensured by the application of these methods and all shareholders are able to participate in such special decision-making (i.e. in such a case, for example, it is not possible to prescribe that a meeting be held on Zoom if, for some reason, the application cannot be installed on the electronic devices of a shareholder);
• in the case of a legal entity with 6-10 shareholders (members), shareholders with the majority of votes may jointly request that one of the special decision-making methods be applied;
• in the case of a legal entity with more than 10 shareholders (members), it is possible to switch to these special decision-making methods at the request of the management.

Even if the publicity of the meetings of the decision-making body or another body is prescribed by law, decision-making under the Decree is not subject to the publicity requirement during the state of emergency.

It is important to emphasize that legal entities have no obligation to operate in accordance with the above special rules during the entire period of the state of emergency, the Decree is intended to prevent the momentary freezing of decision-making processes: at a meeting of a decision-making body held in accordance with the special rules of the Decree, the deed of foundation of the legal entity may be freely amended to prescribe rules for future application that differ from the special rules of the two above-mentioned decision-making methods. However, until the deed of foundation of a legal entity is amended to that effect, the legal entity must comply with the specific rules of the Decree.

Step 3: Limited delegation to management, "two-faced" management decisions

If the conditions for the operation of a decision-making body are not met under any of the previous two steps, in respect of certain urgent matters, the Decree delegates decision-making powers of the decision-making body to the management by law. Thus, in such a case, the management of a legal entity may decide on the following matters:

• approval of the annual report (audit must be carried out in this case as well, and the Supervisory Board’s preliminary written report must also be obtained);
• use of after-tax profit;
• making decisions necessary to ensure the lawful operation of the legal entity (e.g. relocation of the registered office if the legal relationship underlying the use of the registered office has ceased);
• making decisions necessary to deal with the situation resulting from the state of emergency, and
• urgent matters arising from rational and responsible management.

However, the powers of a management team are not unlimited even after such delegation, there are special decisions  that a management team still cannot make (e.g. decisions on voluntary liquidation, reduction of the share capital), or can only make under strict conditions (e.g. additional payment, ordering other capitalization).

A management team has an obligation to send the legal entity’s shareholders (members) all draft decisions belonging in the powers delegated by the Decree, who may object to making decisions. However, the procedure for this is not specified in the Decree, so determining a reasonable period during which a management team must reckon with objection by members may give rise to legal disputes later.

A management team is prohibited from making decisions,

• if a shareholder (member) holding more than 25% of the votes object in their written opinion prior to the adoption of the decision to the extent of at least 51% of the votes; or
• if the legal entity has a shareholder (member) with a majority influence or a qualified majority influence and that shareholder objects to the draft decision in a preliminary written opinion.

Management decisions made with these special delegated powers will be "two-faced" decisions: on one hand, they are considered to have been made by the decision-making body (they can be disputed in court; if they otherwise must be published or submitted to the court of registration, this must be fulfilled), on the other hand, directors are liable to the legal entity for damage caused by such decisions in accordance with the general rules of management liability.

If a management team makes such delegated decisions during a state of emergency, an extraordinary meeting of the decision-making body must be convened within 90 days of the end of the state of emergency, and these decisions must be included on its agenda. If the decision-making body amends or revokes these decisions, the rights and obligations that have arisen prior to the amendment or revocation will not be affected.

The Decree raises a problem of application in that it does not prescribe detailed rules for the exercise of delegated management powers in cases where a legal entity does not operate under the management of a single person or an executive board, but the legal entity has several executive officers acting independently or together (or both). The legislator addressed this special feature only in the second step, in laying down the detailed rules of special decision-making methods, but failed to do so in the third step; therefore, it is questionable how the management teams of these legal entities can make decisions belonging in the third step in a non-disputable manner that is compliant with the laws.

Simplified operation of other corporate bodies of legal entities

The Decree provides an even more permissive possibility for the operation of other corporate bodies of a legal entity (executive body, board of directors, supervisory board, audit committee, etc.) established in accordance with the laws or the legal entity’s deed of foundation. These rules may also be applied by a legal entity whose decision-making body continues to operate under non-emergency rules as described in the first step.

Other corporate bodies of a legal entity may meet, even in the absence of a previously regulated procedure

• by electronic means, or
• by any other electronic means ensuring identification, or
• by written consultation, including by e-mail,

and they can make decisions in writing.

The Decree also ensures smooth operation in the event that during the state of emergency, the number of members of a legal entity’s body falls below the minimum specified by law or its deed of foundation, or otherwise a member is unable to perform their duties due to the COVID-19 coronavirus pandemic; as a last resort, such bodies may continue to function with a single remaining member.

Mandates of a legal entity’s officials and prohibition against resignation with immediate effect

The Decree provides a clear answer to the question of what to do if the mandate of executive officers, managing directors, members of a legal entity’s bodies or its permanent auditor is terminated during the state of emergency.

A mandate terminates during the state of emergency only if:

• the person concerned is dismissed by a decision of the decision-making body;
• the person concerned dies, or the legal entity is dissolved without legal succession;
• the person’s legal capacity becomes limited in the scope required for discharging their functions; or
• any grounds of exclusion or conflict of interest arises in relation to the person concerned.

If a fixed-term or conditional appointment expires during the state of emergency or a resignation is communicated during the state of emergency, the mandate concerned remains in force until the 90^th day following the cessation of the state of emergency. Naturally, during this period, the decision-making body may still pass a resolution to approve the termination of a mandate as of an earlier date; however, without such a decision the person concerned has an obligation to fulfil their functions until the expiry of said period. It is important to point out that these provisions also apply to any official whose mandate or appointment terminated after the promulgation of the state of emergency but before the Decree entered into force (11 April 2020), however they or another person in lieu of them had not been assigned (appointed, elected) to fill the vacant office. In this context, dealing with a situation in which a civil law relationship (audit contract, managerial employment contract) is also underlying a concerned position requires thorough attention from the respective legal entity.

Another important means of alleviation, and this is applicable to legal entities operating under the first and second steps above, is that if the mandate of a legal entity’s statutory auditor terminates during the state of emergency, the management team of the legal entity is entitled to make the necessary decisions regarding the statutory auditor’s legal relationship as specified in the third step.

Facilitating electronic communication within the organisation of a legal entity

The Decree endeavours to streamline the operation of legal entities and recognises legal declarations sent by e-mail as electronic written legal declarations in the following two cases:

• in the course of communication with its decision-making body, a legal entity’s bodies may sign documents with a qualified electronic signature, an advanced electronic signature based on a qualified certificate, an electronic seal or as an alternative, they may sign documents with the Hungarian-specific Client E-Gate (‘Ügyfélkapu’)-based so-called AVDH;
• if the shareholder (member) of a legal entity is a legal entity itself, it may sign messages addressed to the legal entity in any of the aforesaid methods, while private individual shareholders have no obligation to sign legal declarations electronically (not even with AVDH). In the latter case however, a legal declaration made electronically must contain the information necessary for the identification of their person.

It should be emphasized, however, that the Decree provided a solution only applicable to domestic legal entities, and in part, legal entities in the EU; in principle, provisions above do not apply to shareholders (members) that are legal entities of other nationalities.

Moratorium on certain extraordinary decision-making obligations

In several cases, the Civil Code requires limited liability companies (‘kft.’) and private companies limited by shares (‘zrt.’) to convene extraordinary shareholders’ meetings and general assemblies, and also orders the adoption of extraordinary resolutions at these meetings (e.g. statutory reduction of initial capital, management of impending insolvency).

If the decision-making body of a limited liability company or a private company limited by shares is unable to decide on these questions in accordance with the first or second step, and the decision of the management under the third step would run counter to the limitations in the Decree, the Decree provides a moratorium to these companies (i.e. the shareholders’ meeting or the general assemblies) to make such decisions. However, during such a moratorium, management must still comply with all other statutory obligations in the context of situations giving rise to extraordinary meetings. Instead of the normally applicable deadlines, decisions required by the Civil Code must be made at extraordinary shareholders’ meetings and general assemblies convened within 90 days from the cessation of the state of emergency.

In addition to the general rules above, the Decree establishes further detailed rules for the operation of public companies limited by shares, condominiums and public bodies. Some of the rules described above (e.g. rules of the second step, the right to protest under the third step) are not applicable to listed companies, these are replaced by specific rules in the Decree.

In summary, the Decree establishes the framework conditions for the smooth operation of legal entities in the current situation. However, decision-making in conformity with the applicable laws requires more diligence from the decision-making bodies and management teams than usual; therefore, increased legal prudence is required to ensure the lawful operation of legal entities during the state of emergency.

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Should you have any questions regarding the summary above, do not hesitate to contact the experts of Réti, Várszegi and Partners Law Firm PwC Legal:

dr. Dániel Kelemen
daniel.kelemen@pwc.com

dr. Balázs Balog
balazs.balog@pwc.com

dr. Dóra Horváth
dora.horvath@pwc.com

dr. Péter Zalai
peter.zalai@pwc.com