Comparative Study of Management Contracts

Regulation in U.S.A., UK and German Legal Systems

(Abstract from “Management Contracts: Law & Management” published in Univ. of Piraeus
12/2007)
i) U.S.A. Legal System

In American law, the validity of a management contract depends to a

considerable extent on the amplitude of powers vested to the manager
and the extent thereof.
Therefore, management contracts which concede to the manager all or
most of the managerial powers pertaining to the Board of Directors, thus
impairing the autonomy of the managed company, shall be deemed as
null and void.
American courts have adjudicated that the members of the Board of
Directors owe a duty of loyalty to the shareholders, and therefore are not
allowed to assign to third parties the entire work entrusted to them. When
the members of the Board of Directors concede their managerial
competences in blank, they disclaim an inherent power and violate their
duty of loyalty to the shareholders. American courts do not even accept
the potential approval of such management contracts by the General
Assembly1, as it would cancel the allocation of responsibilities among the
different bodies. For this reason, the right of the shareholders to select an
administration with substantive competences is considered to be
inalienable, even if such alienation were to be decided by the
shareholders themselves.
Another decisive element determining the validity of a management
contract under American law is the duration of the contract. Due to its
limited term of office, the Board of Directors of the contracting company
does not have the right to bind the company with long-term contracts, as
this would constitute an unjustified limitation of the subsequent Board of
Directors’ power to determine the company’s strategy.
Therefore, a management contract assigning the management of one
company to another for a period of twenty years has been found by the
courts to be illegal. On the other hand, a management contract with a
duration not exceeding five years has been found to be legally valid. The
treatment reserved to the management contract by American law is in
many ways similar to the position of such law towards outsourcing
agreements, especially those that aim to regulate the exercise of
corporate management in a different way than the one provided for in law
or in the articles of association, and to impose results that are contrary to
provisions of mandatory law.
More specifically, some older American court judgments considered as
null and void all outsourcing agreements that violated the provisions of
law concerning the administration of the company by the Board of
Directors. The argument supporting such opinion was that the limitation
of the shareholders’ responsibility was a privilege granted by the legal
system only when combined with the exercise of the corporate
1
Grossfeld, Management and control of marketable share companies, International Encyclopedia of
Comparative Law, vol. XIII, chapter 4., p. 49.
U. Immenga, Company systems and affiliation, International Encyclopedia of Corporative Law, vol. XIII,
chapter 7, p. 27.
1
administration as prescribed in the law. Such concept was based on a
relevant concept concerning the group of persons involved in corporate
administration.In particular, when exercising its administrative powers,
the company’s Board of Directors does not only serve the interests of the
shareholders but also those of other persons who are related to the
company, such as employees, suppliers, buyers, business partners,
creditors, investors and the society in general. This concept is directly
associated with the stakeholder theory, according to which corporate
decision-making and corporate administration in general should take into
account not only the interests of the shareholders but also those of the
stakeholders.
It was therefore adjudicated that the validity of such outsourcing
agreements should be examined ad hoc, depending on the degree of
divergence from the provisions of law and, of course, on the extent and
the nature of competences removed from the Board of Directors.
Nevertheless, such examination should always take into account the
interests that the contract aims to serve and the results it may produce to
the interests of the above groups and to those of the stakeholders.
According to a different view, which attempts not to impose immoderate
limitations to the freedom of contracts, the purpose intended by the
provision of law violated by the agreement should be examined ad hoc,
and the outsourcing agreement shall be deemed to be void if it is found to
impair the accomplishment of such purpose.
In contrast to these traditional concepts, American law currently accepts
outsourcing agreements which regulate issues related to corporate
administration. Such reversal of opinion is justified by modern market
trends, since outsourcing agreements have become more frequent and at
the same time contribute significantly to the flexibility of modern
entrepreneurship.Despite the lack of recent case-law on management
contracts, we believe that the attitude reserved by American law to issues
concerning outsourcing agreements safely indicates its positive outlook
towards such contracts, since both contractual forms are concluded with a
view to addressing similar problems.Nevertheless, the management
contract – in contrast to outsourcing agreements – is actually external,
since it links the assigning company with third persons, who are
reasonably more interested in their own interests than in those of the
company. Besides, deeply rooted in American law is the philosophy of free
competition, according to which companies must operate as autonomous
entities and determine their market behavior2. Since management
contracts are a considerable threat to this freedom, American courts
envisage them from this particular point of view with caution.

ii) U.K. Legal System

England is the country where the so-called ‘Managing Agencies’

appeared for the first time3 in late 19th century. They undertook for
consideration to supply companies engaged in business in English
colonies, mainly India and Southeast Asia, with trained and specialised

2
Athanasiou L., The Management Contract, 13th Association of Greek Commercialists Congress, 2003, p. 347
3
Georgiadis S., The company management and administration contract, ΧrΙD Γ/2003, p. 603.
2
personnel, while also undertaking the overall organization and
management of such companies.
In accordance with the English law principle of respect to the freedom of
contracting parties, especially in commercial contracts, all issues
concerning the organization and management of a company, such as the
election of the members of the administrative body, the form of such
body, the division of competences among its members and their
substitution by third persons, are considered to belong to the field of
private autonomy, in contrast with other countries4, where such issues are
governed by mandatory provisions of law. Understandably enough,
according to the above observations, English law unconditionally accepts
outsourcing agreements aiming to regulate corporate administration and
management issues. Pursuant to article 71 of Table Α, an appendix to the
English Companies Act (Companies Act -1985) which is in fact a template
for articles of association and is applied when the parties have not made
different agreements, the directors may assign competences to third
persons, who shall be deemed as the company’s proxies. Such
assignment may be made with or without subdelegation of powers5.
The above leads us to assume that the conclusion of a company
management contract would also be positively envisaged, especially
when taking into consideration the increased respect of contractual
freedom in English law. This however does not mean a priori that the
company management contract shall be actually envisaged in a positive
way, since a basic principle of English law is that the managers of a
company do not have the right to assume responsibilities that shall
subsequently limit their discretionary powers in relation to the exercise of
their decisive competences6.
Therefore, according to English law, any outsourcing agreements
concluded by shareholders, some of whom also have the capacity of
director, by which they assume the obligation to vote in a specific way in
the Board of Directors, shall not be deemed to be valid. When, however,
the members of the Board of Directors conclude a contract in the name of
the company and believe that such contract will serve the company’s
interests, it is accepted that they have the right to bind themselves and
generally to proceed to any act necessary for the fulfillment of the
obligations arising from this commitment. Due to this permissible
exception, we may assume that English law accepts in principle the
validity of the management contract. However, since the institution of
management contracts is not widely used in England, the validity of the
opinion sustaining its acceptance by English law is mostly based on
assumptions and on the previous handling of similar cases. In addition,
there is no relative case-law which could confirm the positive approach of
English law to management contracts.
The Jenkins Committee, which operated in the past as a committee for
the reform of the English companies act, has made the following
suggestions as for the validity of the management contract. When the
assigned competences are of a technical and professional nature,
4
Pennington's Company Law, 7th ed. Butterworths, 1995, p. 765.
5
Pennington's Company Law, p. 771, where the possibility for substitution of corporate management, due to
statute’s provision, is analyzed. It is observed that a division of board’s duties is permitted if not permanent.
6
U. Immenga, Company systems and affiliation, International Encyclopedia of Corporative Law, vol. XIII,
chapter 7, p. 27.
3
especially when specialized issues requiring expert know-how are
involved, it shall be deemed that the contract is not subject to abuse and
is therefore valid. On the contrary, if a significant part of the company’s
management or even all managerial powers comprised therein are
assigned, and furthermore if such assignment is made in blank, the
contract shall be void as subject to abuse7.

iii) Germany Legal System

In Germany, the company management contract was already known

from as early as the First World War. The German legal system also began
to deal very early with the management contract, thus providing a
sufficient and helpful case-law on the matter. The establishment of this
type of contract began in the framework of the management of groups of
companies, mostly for fiscal reasons. By virtue of this contract, the
subsidiary company was put under the management of the parent
company, thus becoming a body of the latter. The income of the
subsidiary was thus subject to taxation only once, at the parent company
level. This was an intelligent way to avoid double taxation.
During the first years, German courts contested its validity on the
grounds that it led to a ‘corporate incapacity’ regime. According to the
relative case-law,8 the managing company undertakes to exercise
managerial acts on behalf of the managed company and in accordance
with its instructions. Things, however, are usually different in practice,
since the parent company cannot be deemed as a ‘third party’ as to its
subsidiary. Therefore, the management contract is actually founded on
the existence of a relationship of participatory or actual dependence. The
management is thus exercised on behalf of the (controlling) managing
company, which also promotes its own interests, and not on behalf of the
company under management (controlled-subsidiary company), which -as
a rule- waives the right to give instructions and action guidelines9.
Even though German law treated the management contract during its
first years of establishment as a contract which turns the assigning
company into an instrument of the managing company, it subsequently
recognized it and included it in its legislation. Indeed, German law is the
only modern law to explicitly determine the conditions required for the
validity of this contract as one of the potential forms of contractual
relationship between companies, while other legal systems do not deal
with this issue at all. More specifically, German law provides for two
categories of contractual relationship between companies. The first
category includes the so-called organizational contracts, which lay down
provisions overriding those of the law or the articles of association. The
result of these contracts is that the company ceases to be an independent
financial entity and the balance of interests in the company is reversed.
These are the control and profit transfer contracts (paragraph 291 of the
German law for Public Limited Liability Companies). With the control

7
Grossfeld, Management and control of marketable share companies, International Encyclopedia of
Comparative Law, vol. XIII, chapter 4. p. 48,
Athanasiou L., The Management Contract, 13th Association of Greek Commercialists Congress, 2003, p. 349 .
8
Examples of relevant case-law in Grossfeld, p. 48.
9
Athanasiou L., p.344
4
contract the managed company undertakes to operate in accordance with
the instructions and to the best interest of the managing company10.
The second category includes, among others, company lease and
concession contracts (paragraph 292 of said law). Although not explicitly
mentioned, the company management contract also falls under this
category, and is validly concluded by virtue of a decision of the General
Assembly passed with an increased majority % (paragraph 293 of said
law)11.
The German legal system is therefore among the few ones in the world
that do not contest the validity of the management contract. Instead it
includes provisions of law that govern such contract, thus classifying it
among the contracts which are explicitly defined in applicable legislation.

iv) Conclusions

The foregoing analysis of the way by which three different legal systems
treat the management contract leads us to the conclusion that all three
legal systems recognize in principal the existence of such contract and
deal with it in some way, though cautiously. Such caution is justified by
the sweeping changes that this type of contract imposes on the actual
corporate organization and management system.
We also observe that, with the exception of Germany, the other two
countries treat the management contract with a certain apprehension,
mainly because of their dedication to the effectual typological doctrines
concerning the division of competences in companies and the fact that
the greater part thereof is traditionally reserved to the main managing
body.
The American outlook on the matter is quite remarkable; American law
examines the management contract based on potential hazards entailed
by it for the shareholders’ and third parties’ interests and determines the
validity of the contract in concreto, laying emphasis on the interests
involved in the company.
We also conclude that applicable legislation simply follows the current
concepts concerning the role of management in the company, as a
constituent of its identity. Such concept already shows a tendency to
change. The management contract reflects modern market needs, which
define the company as a group of individual interconnected functions that
must be carried out effectively, regardless of the implementing body; in
this framework, management is regarded as one of these functions.
Nevertheless, since a private agreement which remains known only to the
parties thereto can entail consequences similar to those of group of
companies, trusts and joint ventures, it is important for legal systems to
increase their vigilance in order to protect free competition.
In any case, the management contract is an emergent institution of
corporate law which has developed during the last years in parallel with
outsourcing agreements. The E.U. itself only recently took measures
10
Sinanioti-Maroudi Ar., The Responsibility Formation in Group Companies, EEmpD, 2003, p. 556
11
For further analysis, Pampoukis Κ., S.A. Incorporation in Multinational Group, 1989, p. 83, U. Immenga, p.
26 and especially p. 28, where the final results and the importance of shareholders’ approval, as prerequisite of
the management contract’s power, is analyzed, although it is observed that this principle of approval is not such
a secure clause in subsidiary companies, where the parent company can control the voting result.

5
concerning the results of outsourcing agreements, mostly in relation to
their impact on labour law12. As market trends seem to favour such
contracts, which aim to cut off internal corporate functions and assign
them to external entities, national and supranational legal systems must
take all necessary measures in order to eliminate any gaps in legislation
that render the field subject to abusive exploitation, facilitate potential
concealment of business activities and are likely to impair the interests of
society in general.

12
Kamenopoulos, The functions transfer in recent ECJ case-law, EErgD, 1998
Κartaltzis V., Business Transfer and Outsourcing, DΕΕ 11/2004, p. 1106
Leventis G., Function or Activity Transfer (outsourcing), DΕΝ, Vol. 60/2004, p. 1193