How  Companies are managed inLatvia

The management of companies in Latvia is mainly regulated by means of binding laws and regulations.  Up to now, institutional investors, shareholders, stock exchanges and other interested parties have not actively promoted possible means of corporate governance.

At the end of this year new regulations will be introduced by the Riga Stock Exchange, mandating special requirements that apply to members of the supervisory board  of public companies. The Riga Stock Exchange is also preparing coprorate governance recommendations, which contain guidelines regarding the independence and structure of officers in public companies, organization of work, information to be submitted to the stock exchange regarding these officers, their education, work experience.

Requirements concerning the management of companies, including public companies, are included in the Commercial Law which will become applicable to all companies as of January 1, 2005. Special provisions regarding the rights of a dominant company to participate in the management of a dependant company are included in the Group of Companies Law.

Shareholders participation in company management

Shareholders  exercise their rights to participate in the management of company through the Shareholders’ Meeting. The Shareholders’ Meeting has the exclusive right to adopt fundamental decisions regarding operations of the company. Only the Shareholders Meeting can take decisions in the following areas: (i) amendments to the charter, (ii) changes in the share capital, (iii) election and removal of members of the board of directors (this only applies to limited liability company) and supervisory board, (iv) approval of annual accounts and distribution of profits, (v) election and removal of the auditor, controller and liquidator, (iv) raising claims against members of the board of directors or the supervisory board, (vi) termination and continuation of operations of the company, reorganization. The Shareholders’ Meeting of a joint stock company (hereafter, ‘JSC’) can also decide matters relating to the issuance of, and conversion of the company’s securities.  

The power of the Shareholders’ Meeting of a limited liability company can be extended.

Additional matters within the exclusive competence of the Shareholders’ Meeting can be specified by law or in the charter. In addition, the Shareholders’ Meeting can adopt decisions which are within the competence of the Board of Directors or the Supervisory Board. However, if the Shareholders’ Meeting interferes with the competence of the Board of directors or the Supervisory Board, the shareholders who have voted in favor of the relevant decision shall be jointly liable for losses caused as a result.

The competence of a JSC Shareholders’ Meeting can only be extended by law. The Shareholders Meeting of a JSC may not interfere with the activities of the Board or the Supervisory Board.

Board of directors: the management and representative body

Management and representation functions

The Board is the management body of the company. Its functions include the management and representation of the company. Management means adoption of internal decisions of the company. Representation refers to the expression of the company’s binding will externally, for example, entering into agreements in the name of the company.

The law does not regulate the assignment of the management function to any other institution or officer in the company. However, this does not mean that the authority to adopt certain ‘internal’ decisions could not be entrusted to other corporate bodies or officers. The Board of directors is the only management body established by law, so only the Board (or the shareholders meeting of an LLC, if it decides to interfere with the competence of the board) can delegate these management functions. The Board (or LLC management) will remain responsible for all management decisions taken even if these decisions were delegated to another person.  

The representation function can be delegated not only to the Board, but also to holders of a procura and a commercial proxy. A procura and commercial power of attorney are special forms of authorization which can be issued only by merchants (including companies). These concepts were introduced when the Commercial Law took effect on January 1, 2002. Before this date, powers of attorney were issued in accordance with general provisions of the Civil Law.

The procura scope of authorization is stated by law. The holder of a procura has the right to take all actions with regard to the commercial activity of the company. The only restriction applying to the holder of procura is that, without special authorization, they may not sell, pledge and encumber real property. The issuance of the procura is recorded in the Commercial Register. A third party can assume in good faith that the holder of a procura who is registered in the Commercial Register has the right to represent the company to the extent mandated by law. The company may limit these rights of representation, however these limitations will not be binding on third parties and will be effective only as between the company itself and the holder of the procura. In effect the procura holder has authority similar to that of the Director; the scope of their powers in relations with third parties is almost as broad as that of the Director. 

In Latvia, issues concerning the procura are becoming more topical. 125 procuras were issued in the first year after the Commercial Law became effective. In 2003, 367 procuras were issued, but in 2004 (up until August) – 333 procuras were issued. Procuras can be particularly important to Latvian companies with foreign investment.

Representatives of the investors residing outside of Latvia are often appointed to the Board of these companies. As the Director does not reside in Latvia they are unable to participate in the day-to-day activities of the company. By issuing a procura, other employees of the company can resolve these company activities. However, considering the broad rights of representation vested in the holder of a procura, it is important that this person be trustworthy. The actions of the holder of a procura on behalf of the company will be binding on the company. The company will have to perform contracts entered into by the holder of a procura even if the company has prohibited the holder of procura from entering into the relevant contract. If the procura is issued to an employee of the company, the right to represent the company can be revoked only by revoking the procura itself and registering this revocation with the Commercial Register. Representation rights granted to the employee under a procura will not automatically expire upon termination of employment and the revocation of a procura will not terminate the existing employment relationship.

The company can reduce the risk associated with the issuance of a procura by issuing a standard commercial power of attorney. Unlike the procura, a standard commercial power of attorney is not registered with the Commercial Register. Therefore, it does not provide any public credibility.Before entering into a transaction the third party must ascertain the existence of the commercial power of attorney and the scope of its authority.

Requirements set for the Directors

Election of the Directors is different in the LLC and JSC. Directors of the LLC are elected by the Shareholders’ Meeting. In the JSC these functions are assigned to the Supervisory Board. If a Supervisory Board is established in the LLC, the election of the Directors can also be entrusted to the Supervisory Board. The Board may consist of one or more Directors. Public companies shall have at least three Directors.

The law sets comparatively few restrictions regarding the Directors. Any person can be a Director, except for (i) an incapacitated person (ii) a supervisory board member of the same company, (iii) an auditor of the same company, (iv) a person who by judgment of court is deprived of the right to engage in commercial activity, (v) a person who is deprived of the right to hold positions in the management bodies of companies. In a JSC, the position of a Director also cannot be taken by a Member of a dominant company in a group of companies.

Before the amendments to the Commercial Law were adopted on April 22, 2004, there was also a requirement that at least half of the Directors must have a permanent place of residence in Latvia. Often it was difficult for foreign investors to find persons residing in Latvia to whom they could entrust the management of their investments. Therefore, foreign investors often elected two Directors, one who had a permanent place of residence in Latvia and was elected only for the purpose of meeting the residency requirements of the Commercial Law. Both Directors were granted joint rights of representation, so that the Director residing in Latvia could not act without the consent and participation of the other Director. However, this again caused problems, as both Directors could block the activities of the company. Amendments to the Commercial Law annulled this residency requirement and made life much easier for foreign investors in Latvia.

The law allows the charter of a company to provide stricter restrictions in respect of the Directors. In Latvia, this is not a common practice yet. Generally one shareholder in the LLC holds the majority of shares andtherefore has the right to decide the election of the Directors. Directors of a JSC are elected by the Supervisory Board,so the shareholders could incorporate charter provisions binding on the Supervisory Board stating requirements applicable to Directors.

Directors cannot compete with the company. The Director may not, without consent of the Supervisory Board or the Shareholders’ Meeting (i) be a partner with full liability in company which operates in the same field of commercial activity, (ii) enter into transactions in the area of the company’s commercial activity in his or her own name or in the name or for the benefit of a third party, (iii) be a Director of another company which operates in the area of the company’s commercial activity, except in cases when both companies are parts of the same group of companies. If a Director violates these prohibitions on competition, the company has a right to claim compensation for damages or recognition that the relevant transactions is concluded in the name of the company, and the income gained or the right to claim shall be transferred to the company.

The Commercial Law does not contain a requirement that a certain number of Directors must be independent. However, the Commercial Law states that if there is a conflict of interest between the company and a Director of a JSC or their relatives, the issue shall be decided at a Board meeting, in which the interested Director cannot vote. The interested Director violates the duty to notify or not participate in voting, the company shall be entitled to claim compensation for any losses caused.

These duties are not expressly stated with respect to a LLC. However, this does not mean that sacrificing the interests of the company for the benefit of a Director or his or her relatives is permitted. In accordance with the Commercial Law, the Directors of the LLC and JSC have a duty to act as honest and careful managers. Placing personal interests above the interests of a company could be considered to violate this duty. If a Director has failed to act as an honest and careful manager, the company has the right to claim compensation for the resulting losses.

Supervisory Board

The supervisory functions in the company are carried out by the Supervisory Board which is established and exists separately from the Board of Directors. A Supervisory Board must be established in a JSC. In an LLC, the establishment of a Supervisory Board is not mandatory and the Shareholders’ Meeting has the discretion to decide whether one shall be created. 

Requirements set in respect of the Members

Members are elected by the Shareholders’ Meeting. The following persons may not be Members: (i) Directors, the auditor, holder of a procura or commercial proxy of the company, (ii) Directors of any dependent company of the company or any person with the right to represent the dependent company. Before the amendments to the Commercial Law were adopted on April 22, 2004, a person who was already a Member in six other capital companies could not be a Member. This restriction has been removed. The charter of the company may also set stricter requirements in respect of the Members.

The Supervisory Board shall consist of at least three Members. If the shares of a JSC are publicly traded, the minimum number of Members is five. As already mentioned above, public companies shall also have at least three Directors. These are almost the only requirements applicable to the management of companies which differs in respect of companies with publicly traded shares. Given that only the shares of a JSC can be publicly traded, the requirement of a supervisory board can be considered to be the primary and most significant requirement in respect of public companies.

The draft regulations to be adopted by the Riga Stock Exchange by the end of 2004 provide that if any shareholder of a public JSC holds more than 30% of the shares with voting rights, at least two Members must be persons who are not related to this shareholder. A Member is deemed to be related to the shareholder if (i) they concurrently holds a position as a Director or a supervisory board member of the shareholder or a company in the same group of companies with this shareholder, or (ii) they are appointed by the shareholder to represent this shareholder on the Supervisory Board of the issuer, or (iii) they holds 10% or more of shares with voting rights in the shareholder (if this shareholder is a legal entity), or (iv) they are in any other manner able to control or influence the activities of this shareholder.

Supervisory functions

The main function of the Supervisory Board is to represent the interests of shareholders during the time between Shareholders’ Meetings, and supervise activities of the Board of Directors. The supervisory board (i) monitors that the business of the company is conducted in accordance with law, the charter and the decisions of the shareholders’ meeting, (ii) examines the annual accounts of the company and the proposals of the Board regarding the use of profits and prepares its own report to be submitted to the Shareholders’ Meeting (iii) represents the company in relations with the Board of Directors, including raising claims regarding compensation of losses. The duties of the Supervisory Board also include approval of transactions concluded between the company and its Directors or auditor.

It is possible to extend the powers of the Supervisory Board in the charter, by requiring that for certain decisions, the Board of Directors must obtain the approval of the supervisory board. The Commercial Law states that the following decisions are deemed to be particularly important: (i) participation in other companies, (ii) sale or transfer of real property, (iii) opening or closing of branches and representative offices, (iv) execution of transactions which exceed the amount stated in the charter or decisions of the Supervisory Board, (v) issuing of loans which are not related to the usual commercial activities of the company, (vi) issuing of loans to employees of the company. This list provided by the Commercial Law is not exhaustive and the company may provide for other such issues in its charter, for which decisions the Board requires the approval of the Supervisory Board.

To ensure that the Supervisory Board can exercise its control functions, it is granted the right to request that the Board report on the status of the company and to become acquainted with all Board activities at any time. The supervisory board has the right to examine the company’s registers and documents, the cashier’s office and all property of the company. The Supervisory Board may examine the activities of the Board upon its own initiative. However, shareholders who represent at least one tenth of the share capital of the company, may also submit a written request to the Supervisory Board to examine the activities of the Board of Directors.

The law strictly defines the functions of the Board of Directors and the functions of the Bupervisory Board. Its general control functions do not entitle the Supervisory Board to decide on matters that fall within the exclusive competence of the Board of Directors.