Have you violated the prohibition of competition from the position of a managing director or partner in an LLC?

If you are a member of the statutory body of a limited liability company (hereinafter referred to as "SRO") or its shareholder, you may be guilty of a breach of the non-competition prohibition regulated by Section 199 of Act No. 90/2012 Coll., the Companies and Cooperatives Act (hereinafter referred to as "CCA"). Section 199 of the CCA has been amended with effect from 1 January 2021, which has brought several significant changes.

Author of the article: ARROWS (JUDr. Ondřej Stehlík, LL.M., MBA, office@arws.cz, +420 245 007 740)

Author of the article: JUDr. Ondřej Stehlík, LL.M., MBA, ARROWS (office@arws.cz, +420 245 007 740)

Fundamental changes to the non-competition prohibition after the amendment to the ZOK

A fundamental change compared to the previous ZOK legislation is the possibility of non-compete:

(i) to completely exclude, i.e. that the managing director can simultaneously conduct business in exactly the same field, commodities and does not need any consent of the partners for this,

(ii) to extend and

(iii) narrow.

However, if the non-compete were to be extended only to the partners, then the partners would have to consent to such extension of the non-compete. The ZOK does not specify the form of the consent to the non-compete, but it is always preferable to make such a legal act in writing in view of possible future evidence. It should be added, however, that even the complete exclusion of a non-compete does not affect the obligation to act with due care or to comply with the general rules on conflicts of interest.

Another major change is that in the amended wording of Section 199 of the CCC, the legislator deleted the one-month period within which the shareholders could express their disagreement with the notified competitive conduct.

The exclusion, extension or narrowing of the prohibition of competition can be stipulated at the time of incorporation of the company, when this regulation is reflected in the articles of association (or in the case of SROs with one shareholder in the articles of incorporation), or it can be done in the case of existing SROs. All such amendments to the articles of association are made in the form of a notarial deed. If the memorandum of association is not amended for existing SROs, the new ZOK legislation will apply and the managing director will be obliged to comply with the legally enumerated competitive behaviour.

However, the new non-compete cannot be revoked with the mere consent of all shareholders in the SRO, or by not expressing disagreement as was the case in the previous legislation until 31 December 2020.

Prohibited acts

In relation to the non-compete, the articles of association may also provide that the decision on the scope and content of the non-compete shall be entrusted to the general meeting or that the performance of the prohibited activity by the managing director shall be subject to the consent of the shareholders or another body of the company.

With regard to the specific prohibitions set out in the provisions of Section 199 of the CCC, it generally applies that:

(a) he shall not carry on the business or business of the company, either for the benefit of other persons or to broker the business of the company for another;

In relation to the above, it is always necessary to assess the actual business activity. Thus, if two competing companies, or their managing directors, are engaged in a business activity which consists, for example, in the wholesale of agricultural products, but one company is engaged in the sale of grain and the other in the sale of sugar beet, there is no infringement of the prohibition of competition.

(b) being a member of a statutory body of another legal person with a similar object or business or a person in a similar position, unless it is a concern;

Thus, a managing director or shareholder may be a member of the statutory body or a member of the statutory body or a person in a similar position of another concern of the same concern, despite having the same or similar business (activity).

(c) Participate in the business of another business corporation as a member with unlimited liability or as a controlling person of another person with the same or similar business or business.

Finally, the provision in question precludes an executive from being a partner in a public partnership or a general partner in a limited partnership.

Extension of the non-compete prohibition

Although the amended Companies Act no longer explicitly provides for the possibility of extending the non-competition prohibition to partners, we believe that, with the consent of the partners, this prohibition continues to apply. By analogy, it can be assumed that an amendment to the articles of association affecting the rights of the shareholders always requires the consent of the shareholders affected by such amendment. Furthermore, when the prohibition is extended, it applies that the decision of the general meeting cannot be applied to persons other than the shareholders. However, it is not excluded to conclude a non-competition agreement with other persons. By agreement with the managing director, the non-competition clause may also be extended for a fixed period of time after the managing director's office has ended.

Consequences of a breach of the non-compete

At the time of a breach of the non-compete, a substantial risk arises, which consists in the possibility of claiming the benefit of a transaction made in violation of the non-compete or the assignment of the corresponding right against the company and, in accordance with the provisions of the Civil Code, to claim damages for the breach of a contractual obligation by the company concerned against the managing directors as a result of the breach of the non-compete and, last but not least, this breach is without prejudice to the possible consequences arising from criminal law.

The question remains as to whether an injunction can be sought against a shareholder who breaches the non-compete. The shareholder cannot be said to be the company's representative, as in the case of a managing director, and therefore the provisions of Section 432(1) CC do not apply to him. However, we consider that the possibility of invoking the abstention of the unlawful act is a general possibility of every injured party and therefore the law does not need to expressly establish this right.

With regard to the time limits for exercising these rights, the right to the recovery of the benefit or right obtained in breach of the non-competition clause must be exercised within three months of the company becoming aware of the breach and, at the latest, within one year of the breach itself. After the expiry of those time limits, the right to the benefit or rights acquired by the infringement of the non-competition clause shall be extinguished.

Conclusion

Therefore, if after 1 January 2021 a statutory body or a member of the Supervisory Board is created in which a violation of the non-competition clause as provided for in the Companies Act occurs, this fact must be expressly addressed in the articles of association.