Legal guide for company directors and CEOs in Croatia

Risk assessment

The priority for directors is undertaking an assessment of risk, i.e. analysing the impact of the new situation on the company’s business in both the short- and long-term. Directors are facing issues related to determining the priority of payments, negotiating standstill arrangements, addressing the health and safety of workers and the public, securing the supply chain, organising remote working, etc. After exposure has been detected, directors needed to approve strategies and act promptly to mitigate the risks the company is facing. 

Solvency

After a financial analysis has been conducted, the main goal should be securing the financial stability of the company (certain statutory rules on directors’ duties in a period of financial difficulties are described in point 12 below). In order to secure the required liquidity, directors should consider different options including additional financing and/or amending the terms of existing financing arrangements, where applicable. They should especially consider applying for relevant government relief/state aid measures. 

Logistics

Travel restrictions and the closure of borders has caused severe disruptions to business operations, especially in terms of the logistics supply and distribution chain. The rules on meetings are important when the management board consists of more than one director, but also because directors should keep shareholders duly informed about the impact of COVID-19 and measures taken (and call a shareholders’ meeting, when necessary). The inability to hold meetings in person should not obstruct corporate governance. The provisions of a company’s constitutional act and other relevant documents (e.g. management bylaws) should be consulted in that regard (and amended, if needed), but there are no major statutory restrictions for limited liability companies. The law does not contain restrictions regarding the meetings of a management board, while shareholders may adopt written decisions/agree on voting by written means in many cases. In addition, new legislation has been proposed which should further facilitate the holding of meetings and the adoption of shareholders’ decisions in the period of crisis for all types of companies. 

Some of the measures available to companies in Croatia include: 

• non-refundable financial aid for the protection of workplaces
• 3-month deferral of VAT liability for March, April and May 2020
• 3-month deferral of payment of corporate income tax and exemption from payment (subject to certain conditions)
• 3-month deferral of payment of personal income tax and social security contributions and exemption from payment (subject to certain conditions)
• once deferred liabilities become due, payment in 24 interest-free monthly instalments will be possible
• an extension to 30 June of the deadline for filing corporate income tax return.

There are also measures focused on ensuring additional financing to companies in the period of crisis, such as liquidity loans with zero or very low interest rates.

All these measures are covered in more detail in other CMS publications (see our COVID-19 page at:

• CMS Expert Guide to COVID-19 Tax Relief Measures (Croatia)
• CMS Expert Guide to State Aid during Coronavirus (Croatia).

A new piece of legislation has been introduced in the context of the Covid-19 crisis, which prescribes, inter alia, that that the director’s obligation to initiate the bankruptcy proceedings (when the statutory requirements are met) does not apply if the bankruptcy reason occurred in the period of special circumstances (according to the legislation, this period started on 1 May 2020 and will last for 3 months thereafter, with the possibility of extension for additional 3 months). More details about this new legislation is available at: https://www.cms-lawnow.com/ealerts/2020/05/important-changes-in-enforcement-and-bankruptcy-proceedings-in-croatia. 

Likewise, the deadlines for filing of the annual reports to the Financial Agency (FINA) have been prolonged. The filing for statistical purposes is extended to 30 June, while the filing for public disclosure is extended to eight months from the last day of the business year (i.e. until 31 August, if the business year is a calendar year). Additionally, consolidated financial statements for public disclosure can be submitted within ten months from the last day of the business year (i.e. until 31 October, if the business year is a calendar year).

This guide focuses solely on the rules relating to limited liability companies (“drustvo s ogranicenom odgovonornoscu”). It does not address the rules for other forms of company such as joint stock corporations (“dionicko drustvo”) or partnerships.

A Croatian limited liability company has a one-tier board structure, i.e. a management board consisting of one or more directors. In certain cases it is mandatory for a company to have a supervisory board, e.g.: (i) if an average number of employees in one year exceeds 200; (ii) when so prescribed by a separate act (e.g. the Credit Institutions Act); or (iii) if the company’s share capital exceeds HRK 600,000.00 and the company has more than 50 shareholders, etc.

However, shareholder(s) may decide freely to have a voluntary supervisory or an advisory board. 

In the case of limited liability companies, all management board members are vested with the same rights and duties, i.e. there is no differentiation between executive, non-executive and supervisory directors under the law. See point 7 below for more information on the (internal) allocation of tasks.
The supervisory board members (if any) should supervise the work of the management board. The supervisory role is exercised, inter alia, through: (i) the right to require the management board to submit a report on the company’s operations; (ii) the right to examine company’s business books and documentation; and (iii) the right to engage an auditor to examine annual financial statements. The scope of supervision depends on the circumstances of the case. For example, greater involvement would be expected if the company operates at a loss, when a crisis occurs, when risky actions need to be taken, etc. 

There are a few legal restrictions governing who can be a director. A director is not required to be a Croatian resident and there is no nationality requirement. However, only an individual (i.e. natural person) with full business capacity (i.e. full capacity to exercise his/her rights) can be appointed as a director.

The Companies Act also contains provisions that restrict the appointment of persons who have been: (i) convicted of certain commercial crimes prescribed by the law (e.g. misuse in the bankruptcy proceedings) during 5 years from the final judgment (this period does not include the time spent serving a sentence); and (ii) barred from a profession falling (fully or partially) within the scope of company’s business activity during the time the imposed measure is in place.

The articles of association/incorporation deed (“drustveni ugovor” or “izjava o osnivanju”; hereinafter the “articles of association”) may contain certain conditions or set additional requirements for the appointment of directors, such as holding specific diplomas or having requisite professional skills. Other specific conditions for the appointment of directors may be prescribed by specific laws, such as those regulating specific sectors (e.g. laws regulating the banking/insurance sector, etc.).

Directors are appointed by a resolution of the shareholders’ meeting, unless otherwise stated in the articles of association. In order for the appointment to be valid, it must be accepted by a director, and unless otherwise stated in the resolution, the term of office starts with adopting the relevant resolution. The court registration has declaratory effect only. The period of appointment of a director is not limited unless the articles of association provide otherwise.

A notification of the appointment signed by all director(s) (and, if applicable, by the president of the supervisory board), together with evidence of the appointment, an appointment acceptance and other relevant appendices, needs to be filed with the Commercial Court’s Register. Any change in the particulars of directors registered in the Commercial Court’s Register (e.g. a director's residence etc.) must be re-filed.

Prospective directors who are non-Croatian citizens are required to obtain a Personal Identification Number (“OIB”) before filing a notification of appointment. A Personal Identification Number is issued by the relevant tax office at the request of the prospective director. The request may be submitted under a power of attorney.

The question of who decides on removal depends on who is entitled to appoint a director and on provisions of the articles of association. In principle, shareholders decide on these questions. In any case, a director may be removed at any time, i.e. without giving a reason for the removal. Likewise, a director can resign at his/her own initiative. Unless the resignation specifies otherwise, it is effective from the day it has been given to the company if there was an important reason for the resignation, or 14 days after it has been given to the company if there was no important reason for the resignation. 
Although a director’s dismissal has immediate effect, third parties acting in good faith may rely on the director’s authority to represent the company as long as the director is still registered in the Commercial Court’s Register. Therefore, any appointment/revocation should be filed with the Commercial Court’s Register without delay.

Dismissing directors from their position removes their authority to represent the company but does not affect any agreements signed between the company and the director (i.e. there is no automatic termination of these agreements under the law). 

Removal of a director is subject to any entitlements the director may have arising from his/her employment contract, the provisions of Croatian employment legislation in certain cases, or his/her management contract. To avoid unwanted qualification of the contract and relevant applicable rules, such agreements should be carefully drafted.

Unless otherwise prescribed by the articles of association, management board members represent the company jointly. The articles of association may envisage a different form of representation and usually define the possibilities in a general way so the exact form of representation may be defined in each particular case (usually by a shareholders’ decision). Different forms of representation are possible, e.g. one or more directors representing the company solely, or one director jointly with another director or jointly with a holder of procura (“prokurist” – a proxy whose powers of representation are defined by the law). Of course, the latter is possible if there is one holder of procura (or more) and if there is more than one director in a particular case. In each case, the form of representation is registered in the Commercial Court Register, thereby notifying third parties of the extent of authority granted to particular individuals.

The authority may be limited by the articles of association, shareholders’ resolution or mandatory instructions of the supervisory board (if applicable), e.g. by limiting the authority to certain actions only, or by requiring an approval of the shareholders’ meeting/other organ for certain actions, etc. These limitations are not registered in the public register and they have no legal effect towards third parties acting in good faith, so if the authority is exceeded, the company will be bound, and the validity of an action cannot be challenged due to a breach of these limitations. If a director exceeds his/her authority in this manner, he/she can be held liable for damages.

Under the Companies Act, all directors are vested with the same rights and duties. Generally, directors are required to jointly manage the company. The shareholders, articles of association, internal guidelines for directors and the management board itself may modify this concept and allocate certain tasks to one or more director(s). Nevertheless, such distribution of responsibilities does not affect the overall responsibility of each director for the company’s business as a whole.

In practice, it is often prescribed by the articles of association that each director is authorised individually to manage the company’s operations and represent the company. This is done to facilitate the management of day-to-day business. It is common for companies which are part of larger groups to have additional internal guidelines or rules of conduct for directors. 

Appointment to the position of director does not in itself create a contractual relationship between a director and the company, irrespective of the type of contract (employment/management contract).
The company usually enters into a management contract with a director, specifying his/her duties and remuneration, as well as other important aspects of the directorship, such as confidentiality, non-compete and non-solicitation provisions, termination provisions and benefits in kind. 

Removal of a director does not automatically terminate his/her contract with the company and vice versa, i.e. such consequence does not arise under the law. However, different termination options may be agreed on in a management contract.

A director cannot, without the consent of the supervisory board or shareholders’ meeting, as applicable, participate in the decision-making process or legal actions which represent a conflict of interest, e.g. entering into agreements as a dual representative (e.g. where a director, or a certain director’s family member, is an authorised representative of the other contracting party). 

Likewise, a director is subject to a statutory covenant not to compete with the company’s business during the term of his/her directorship. For example, without the consent of the supervisory board or shareholders’ meeting, as applicable, he/she cannot carry out activities falling within the scope of the company’s business activities, be a member of the management/supervisory board of another company engaged in such business activities, etc. The scope of statutory covenants is usually broadened by various non-compete and non-solicitation provisions included in a management contract.

If a shareholder is appointed as a director, and the shareholders have knowledge that he/she is engaged in activities representing a breach of statutory non-compete obligations and still appoint such person as a director without explicitly seeking that he/she desists from such activities, the shareholders’ meeting will be deemed to have consented to it. A consent can be revoked at any time.
A breach of the above-mentioned prohibitions entitles a company to seek legal recourse. The company can either seek damages, or request the benefits from such activities (e.g. that the legal actions taken for director’s own account are considered to be made for the company’s account, or that the proceeds from the activities taken for someone else’s account are transferred to the company). In any event, a director can be dismissed from his/her position. (As noted above, a director can be dismissed at any time, without specifying any reason for dismissal.)

A director must manage the company in accordance with its articles of association, shareholders’ decisions and mandatory instructions of the shareholders’ meeting and of the supervisory board (if applicable). He/she must act with the due care and diligence of a prudent businessperson and keep the company’s trade secrets.

A director is subject to a wide range of statutory duties, requiring him/her to, inter alia:

• ensure that all statutory filings are made
• conduct internal reviews
• comply with the statutory requirement to maintain business books
• submit financial statements to the shareholders’ meeting and supervisory board (if any), and prepare management reports when prescribed by the law
• uphold the principles of capital maintenance (i.e. not to make payments to the shareholders contrary to the prescribed rules)
• call a shareholders’ meeting whenever the company’s interests so require, and especially if half of the company’s share capital has been lost, and
• initiate bankruptcy proceedings within a maximum period of 3 weeks from the day when the reason for bankruptcy arose (as defined by the Croatian Bankruptcy Act). A director is generally required to refrain from executing any payments from such day onwards, unless such payments are made in accordance with the law.

A director’s duties are owed to the company itself and a director is liable for damages towards the company in the first place. (In certain, rather exceptional, cases, a director may be liable towards the shareholders and/or company’s creditors.)

On the other hand, shareholders are entitled to give mandatory instructions to a director and may revoke a director without a cause. Thus, one might claim that a director owes duties to the shareholders as well in that sense.

In order to meet the standard of a prudent businessperson, directors should increase their attention and take all necessary measures to overcome the crisis. Further, directors should comply with their statutory obligations to call a shareholders’ meeting or to initiate bankruptcy proceedings, provided that the conditions prescribed by the law are met. 

There are specific obligations under the Act on Financial Operations and Pre-Bankruptcy Settlement applicable to the majority of companies in financial difficulties. Pursuant to the law, directors are generally obliged to:

• take necessary measures to ensure the liquidity and solvency of the company
• manage the assets and liabilities of the company so that the company is able to fulfil its due obligations, and
• create a strategy for maintaining or reaching an adequate level of capital for the company and analyse the company’s risks and exposure. 

With respect to liquidity risks, directors are required to undertake the following measures:

• create a cash flow plan
• regularly monitor and manage liquidity, and
• adopt appropriate measures to prevent or eliminate the cause of illiquidity and identify other possibilities.

Furthermore, directors are required to undertake all necessary measures to secure sufficient long-term sources of financing for the company, considering the scope and type of the company’s business. It is deemed that a capital inadequacy occurred if the loss in the current year, together with transferred losses, reaches half of the company’s share capital. In such event, directors are required to:

• analyse the causes of capital inadequacy within 8 days and propose measures to secure adequate capital and submit them to the supervisory board (if any), as well as to implement such measures (falling within their competence) for which approval has been obtained, and
• immediately call a shareholders’ meeting and propose the measures (falling within the shareholders’ meeting competence) necessary to achieve adequacy of capital.   

Further duties are prescribed by the respective law for cases of illiquidity (regulating the permitted/prohibited payments), etc.

Standard of due care

The standard of due care for directors is to act as a prudent businessperson and to keep the company’s trade secrets. Directors who breach this standard are jointly and severally liable to the company. In proceedings to establish whether a breach exists towards the company, directors bear the burden of proof to show that they exercised due care.

(As mentioned above, special rules apply to the liability of directors towards the company’s creditors and shareholders, which may be triggered in certain, rather exceptional, cases.)

Actions specifically defined as breaches by the Companies Act

Without limiting the general rule on breach of duties, the Companies Act prescribes certain breaches when directors are especially liable for damages. This would be the case, for example, if some of the following are made contrary to the law:

• repayment of shareholders’ contributions into the company
• payment of dividends or interests to shareholders
• subscribe for, acquire, take as a pledge or redeem the treasury shares of the company or another company
• distributing the assets of the company
• making payments once the company becomes insolvent or over-indebted
• payment of renumeration to supervisory board members, or
• granting loan(s).  

Special liability related to capital maintenance rules

The Companies Act contains a general prohibition against making payments to shareholders contrary to capital maintenance rules. Therefore, if the management board executes a non-arm’s length agreement with the company’s shareholder(s), additional liability may be triggered, i.e. in addition to general liability for damages, directors may be requested to compensate payments made to shareholders contrary to capital maintenance rules.

Limitations periods for filing claims

The general limitation period for filing claims arising from a breach of duty of due care is 5 years from the date on which the claim arises.

Criminal liability related to financial difficulties 

In addition to the criminal offences prescribed by the Croatian Criminal Act, the Companies Act prescribes a few specific offences, including ones related to directors’ duties in a period of financial difficulties. Namely, if directors fail to call a shareholders’ meeting in the case of loss described in point 10 above, or fail to initiate bankruptcy proceedings within the deadline prescribed by the law, they may be held criminally liable. 

Liability under other laws

A breach of directors’ obligations under tax and social security legislation may lead to the imposition of fines, or even to the personal liability of directors, in accordance with relevant laws. 
Likewise, various fines may be imposed against directors under other specific laws (e.g. the Act on Preventing Money Laundering and Terrorist Financing if they fail to comply with their duties regarding keeping and registering relevant information on ultimate beneficial owners, etc.).

Directors may be excused from liability if there are justified grounds for such exclusion, or if directors succeed in proving that they have acted in compliance with the standard of due care. According to the Companies Act, directors will be exempt from liability if their actions are based on lawful decisions of a shareholders’ meeting. On the other hand, if directors’ actions were approved by a supervisory board, directors will not be exempted from liability.

Even in the case of exemption (towards the company), the company’s creditors could claim damages from directors if their claims cannot be settled from the company’s assets and if directors severely breached the standard of due care. 

With regard to including exculpating provisions/waivers in management contracts or side letter agreements, it is important to have in mind that the company may settle or waive its right to claim damages from directors for acts they are liable for under the law, in principle, only 3 years after the claim arose and if other statutory requirements are met (approval of a shareholders’ meeting and no objection of minority shareholders defined by the law).

Under Croatian law, reliance on “foreign” insurance policies (including D&O policies) is generally permitted.