Essay LLC Company Law 2002, Leiden University, The Netherlands

Name: Jeroen Braaksma

e-mail: jeroenbraaksma@hotmail.com

Date: 12 December 2002

1. Introduction

The SE has a long history of negotiations. There have always been several topics which couldn't been agreed on. One of the most controversial topics is perhaps employee participation. Where as some countries have extensive forms of employee participation, such as the Netherlands and Germany, others haven’t got it at all, such as Spain and Portugal. Now that the Statute will come into force by January the 1st 2004, it is interesting to see what the final result of about 25 years of negotiating is.

The purpose of this essay is to show how employee participation is dealt with in the SE Statute and the Employee Involvement Directive and to see to what extent the objective of the Directive is achieved.

I will do this by examining the procedure for the creation of employee participation and look at all the rules covering employee participation in the SE Regulation and the Employee Involvement Directive in detail.
When I discuss the provisions of the Regulation and the Directive concerning employee participation in the SE I will look at several problems which arise. I will look at what these problems mean for companies that have extensive employee participation rules and companies that haven’t. I will use the Netherlands and Germany in this essay as examples of countries with extensive employee participation and Spain as an example of a country that hasn’t.
Finally, I will draw a conclusion on how these problems are resolved and on if the Directive’s objective is achieved.

2. The SE Regulation and the Employee Involvement Directive

I will start by discussing the articles in the SE Regulation on the applicability of the Employee Involvement Directive (EID) .

2.1 Applicability of the Directive

Article 9 of the SE Regulation gives the hierarchy in law to which an SE is subject.
The SE Regulation comes first. Second come the statutes of the SE itself, when expressly authorized by the Regulation. The national law of the member state comes last.

The main rule in this Regulation is article 1 §4: employment involvement in the SE shall be governed by the provisions of the Directive. Art 23 (2) SE, which covers the SE formed by merger, and art 32 (6) SE, which covers the SE formed by creating a holding company or a subsidiary, again note that employee involvement in the SE shall be decided pursuant to the EID.
If employee involvement is not dealt with in this way, article 12 (2) provides that the SE can’t be registered.

2.2 The Directive’s Fundamental Principles

So what is the objective of the Directive?
There main principle laid down in the preamble is the “before and after” principle.
The “before and after” principle means that after the creation of an SE the employees of the participating companies should not have less participation rights then they had before.
In point 3 of the preamble it says that the Directive is designed to ensure that the establishment of an SE doe not entail the disappearance or reduction of practices of employee involvement. Point 7 of the preamble stresses that existing participation rights within the participating companies should be preserved through their transfer to the SE unless the parties decide otherwise. The principle is laid down in point 18 of the preamble even more explicitly: “it is a fundamental principle and stated aim of this Directive to secure employees’ acquired rights as regards involvement in company decisions. Employee rights in force before the establishment of SE’s should provide the basis for employee rights of involvement in the SE.” So the rights that existed before the creation of the SE are to be the basis for employee involvement rights after the creation of the SE. According to point 18 this principle not only applies to the creation of the SE itself, but also to structural changes in the SE after it has been created. This is a vague principle, which I will look at more carefully later on when I will discuss the misuse of an SE.

2.3. Provisions of the Directive

2.3.1.The Objective

Article 1 of the Directive sets out its objective: it governs the involvement of employees of the SE. Article 13 §2 provides that national legislation on participation does not apply to an SE. The Directive does not give rules on employee participation. The most important feature is that the participating companies and the representatives of the employees should come to an agreement about employee participation. According to article 5 the period for negotiations is 6 months, unless the parties decide to have longer period (up to 1 year). The parties should agree if they want participation and what kind of participation they want. If they don’t reach an agreement, default rules will (most of the times) apply. We will come to this later.
First it is important to examine what employee participation means in this Directive.

2.3.2 What does Employee Participation Mean?

According to article 2 sub h employee involvement has three components: information, consultation and participation. What participation means is defined in §k: it means the influence of the employees in the affairs of a company by way of:
- the right to elect or appoint some of the members of the company’s supervisory or administrative organ, or
- the right to recommend and/or oppose the appointment of some or all of the members of the company’s supervisory or administrative organ.

The first way of participation is the one used in Germany. The Mitbestimmungs Gesetz provides that the employees and the trade unions have the right to appoint half of the members of the supervisory board directly in listed companies that have more than 2000 employees.
The Dutch structure regime is an example of the second way of participation. The structure regime provides that employees have: (1) a right of recommendation for all the members of the supervisory board (the supervisory board itself will decide who will be appointed), (2) the
Right to object to the appointment on good grounds (the Enterprise Chamber will decide) and (3) the right to submit a request for the dismissal of a member of the supervisory on several grounds.

Article 2 also gives the most important provision: Employee participation is to be established in accordance with the negotiating procedure laid down in article 3. This means that the Directive itself doesn’t give any concrete rules (except for the default rules) that are directly applicable; the rules have to be negotiated. The reason for negotiations is that there are a lot of different employee participation forms in Europe, none of which is ideal. The Directive encourages the social partners to draw up a negotiated solution.

2.3.3 Negotiating

Article 3 §1 says that the management or administrative organs of the participating companies have to take the necessary steps to start negotiating with the employee representatives as soon as possible. Paragraph 2 of article 3 provides for the creation of a Special Negotiating Body (SNB) to act as representatives of the employees. In sub a en b of that paragraph rules are laid down for the composition (how many representatives does a participating company get on the SNB) and the election procedure of the SNB. Member states may provide that representatives of trade unions may be members of the SNB.

According to paragraph 4 the SNB can decide by an absolute majority (51%) unless the result of the negotiations lead to a reduction of participation rights. A reduction means that the level of participation as set out in art. 2 sub k after the creation of the SE is lower than the highest level of participation before the creation within the participating companies. So if for example a Dutch company and a German company merge and the SNB wants to choose the German participation regime, that would be a reduction of participation rights. This is because in Germany the employees can appoint half of the members (50%) of the supervisory board while in the Netherlands the employees have a right of recommendation for all the members (100%) of the supervisory board. The SNB can therefore not take such a decision by an absolute majority. In looking at which level of participation is higher the Directive is only concerned with numbers, it doesn’t matter which kind of participation is involved. We will see that this is also true for the default rules later on.
In the case of a possible reduction of participation rights the SNB shall have to decide with a two thirds majority. This majority has to represent at least two thirds of the employees, including the votes of members representing employees employed in at least two member states. However this is only so in two cases:
- The SE is established by merger and participation covers at least 25% of all the employees of the participating companies.
- The SE is established by creation of a holding company or a subsidiary and participation covers at least 50% of all the employees of the participating companies.
This means that when an SE is established by merger and participation covers only 10% of the employees of the participating companies, an absolute majority is enough to decide that to reduce participation. This is important for the smaller companies, for example Dutch companies. Dutch employees can easily form a minority when it comes to the creation of an SE, an absolute majority on the SNB is then enough reduce their participation rights.
Why are there thresholds? The thresholds are there so that if a small company with participation merges with a larger company without participation the employees of the small company are somewhat protected for a decision to reduce participation. At the same time the threshold provides that a minority of employees cannot be the reason that employee participation is imposed on other participating companies too easily. So the employees of a company that has extensive participation are only protected if they form a substantial part of all employees. Important is that only the employees of the participating companies count for the total of the employees, not the employees of their subsidiaries.

So the existence of thresholds in order to make a decision to reduce existing participation can be justified, but why are they different for the two types of formation of an SE? Why is there a lower threshold for SE’s established by way of merger? Why should those employees be less protected? I will come to this later on when I will discuss the application of the default rules in the case of a merger.

Paragraph 4 doesn’t say anything about the creation of an SE by way of transformation. What does this mean? I think that this means that the SNB cannot take a decision to reduce participation rights in the case of a transformation since that option is mentioned. This is in line with article 3 §6 and article 4 §4. Article 3 §6 says that the SNB cannot take a decision not to negotiate if there was participation in the transforming company. A decision not to negotiate would imply that the employees would lose all their participation rights. Since they cannot do that, it might me understandable that they cannot reach an agreement that would entail a (large) reduction of participation rights either. Article 4 §4 provides that an agreement shall provide for at least the same level of participation as there was before the creation. This is an obvious example of the “before and after principle”, that keeps coming back in several provisions.
So the SNB of a transforming company cannot decide to reduce participation. There has to be at least the same level of participation as there was before. They cannot decide this even if all the members of the SNB want to. Take for example the SNB of a Dutch company with subsidiaries in Germany that has the structure regime that would wants to transform itself into an SE. If the SNB wants to have the German regime, they cannot decide to, since this constitutes a reduction of participation rights. I can understand that safeguards are necessary to assure that the employees are not the victim of a structural change they might not have wanted in the first place and that existing participation rights of employees need to be protected. But this does not only results in a protection for employees, it also results in a limitation: the SNB cannot decide to agree to a different system of participation that is less extensive but that is more fitting to their needs, even if all the employees want to! I think the “before and after” principle is maintained a little too much here. This principle was meant as a protection for the employees, but if they don’t want participation, or want to choose another form, why impose the existing system on them? This provision is also not in line with the Final Report of the Group of experts, which concluded that there should be no minimum requirements for a negotiating procedure in order to avoid any impediment to the independence of the parties . There now clearly is: the participation that the employees had before is a minimum requirement.
As we just discovered, the SNB can decide to terminate negotiations or to not open them at all. In order to make such a decision there has to a majority of least two thirds of the members, representing at least two thirds of the employees (art 3 §6). This threshold is again a safeguard to protect employees from losing their participation rights. The default rules will not apply in that case. The rules about information and consultation in force in the Member State where the SE has employees apply will then. However, it says nothing about the participation rights! Do national systems of participation apply just like with consultation and information, or is there no participation at all? The answer is to be found in article 7: there will be no participation at all since article 7 provides that national system of law on participation do not apply to SE’s. So if an SNB decides not to negotiate there will be no participation. This again can be important for small companies (compared to the other participating companies) that have participation, for example a Dutch structure company. If they have less than one third of the members of the SNB, they can easily lose their participation rights due to this provision.
This paragraph does not apply to SE’s established by way of transformation if there was participation in the transformed company. This means that the SNB of a company that has participation and that wants to transform into an SE cannot decide to terminate the negotiations or to not open them at all. This makes sense in connection with article 3 §4: If you cannot decide to reduce participation you should not be able to decide not to have it all. Again I think the “before and after” principle is maintained a little too much here and again the same question arises: if employees don’t want participation, why impose it on them? Why not apply the same threshold as for the other forms of establishing an SE, or even a bigger one? Why is participation imposed on employees if two thirds (or more) of them do not want it anymore and do not wish to negotiate?
Employees have a right to ask the SNB to restart negotiations. If 10% of the employees request the SNB to examine the possibility of reopening negotiations, the SNB has to comply. This request can be made two years after the cancellation of the negotiations at the earliest, unless both parties (the SE and the SNB) agree to reopen negotiations sooner. It is the SNB however that decides whether to reopen negotiations or not. If negotiations are reopened and no agreement is reached, none of the provisions of the annex will apply. So if the SNB cancels negotiations once, the employees will not have any participation and they will not be able to get it anymore, unless there an agreement reached. This puts the SNB in a very weak negotiating position.

2.3.4 The Agreement
Article 4 of the Directive covers the agreement itself. Participation is covered in §2 g. It says that if the parties decide to establish arrangements for participation the substance of those agreements should be specified in the agreement. The substance includes the number of people can be elected, appointed, recommended or opposed and what the correct procedure is for participation. In §3 it says that the agreement is not subject to the default rules, unless parties agree otherwise.
As we already discovered in article 3 §4 and §6, article 4 §4 provides that SE’s established by transformation need to have at least the same level of ALL elements of employee involvement as the ones existing within the company to be transformed into an SE. “All levels” includes participation. So there is no possibility for the SNB to decide that there should be a reduction of participation in the case of a transformation.

2.3.5. Applicability of the Default Rules
Article 7 provides for application of the so-called default rules. The reason for the application of default rules is that a failure to negotiate an agreement on participation in the European Company must not preclude incorporation as a European Company, since this would have the effect of removing the owners' right to decide on the company’s legal form and transferring it to the workforce. The default rules are in the Annex, which I will examine later on. First I will discuss when they apply.
There are three requirements for the applicability of the default rules. The default rules shall only apply if (1) the period for negotiating of article 5 has expired while no agreement has been reached, (2) the participating companies have agreed to their application and (3) the SNB has not terminated the negotiations. The period for negotiations is 6 months, unless the parties decide to extend that period, up to a one year maximum. If the participating companies do not agree to application of the default rules the SE can’t be registered according to article 12 §2 ECS. This can be a negotiating advantage for the employees. If application of the default rules leads to a participation system that the participating companies will not agree to, the participating companies will be forced to reach an agreement in order to be able to create and register an SE. The SNB will thus get a stronger negotiating position.
Applicability of the default rules is different for each of the ways of establishing an SE.
First I will examine the application in the case of transformation. As I concluded earlier, the SNB cannot decide to have a reduction of participation because the existing rights are (to well) protected by the Directive. So what happens when there is no agreement? According to article 7 §2 a the default rules will apply, but if the company already has participation. This is a logical provision because the default rules will make the existing participation system applicable. A company that does not have participation would therefore end up without it under the default rules anyway.
Article 7 §2 b covers the SE established by merger. There are two possibilities. Either the participating companies had participation and it covered 25% of all employees or they had participation and it covered less than 25%. In the first case the default rules will be directly applicable. In the latter the default rules will be applicable if the SNB decides so. If none of the companies had it, then the default rules will not be applicable. The 25%-threshold is the same as in the one in article 3 §4. That article dealt with the majority needed in the SNB to decide to have a reduction of participation. The same reason is behind this threshold. If a small company with participation merges with a larger company without participation the employees of the small company are somewhat protected. At the same time the threshold provides that a small minority of employees (less than 25%) cannot be the reason to impose participation through direct application of the default rules on all participating companies. If only a small minority has participation rights it’s fair that participation is not directly applied to all employees but that all of them can decide whether to apply the default rules or not.
Thirdly the SE established by the creation of a holding company or a subsidiary is dealt with. This is treated the same way as a merger, only the threshold is different: it is 50%, the same as in article 3 §4. Apparently less protection is needed in the case of merger than in the case of creation of a holding company, but why? I will discuss this when I look at §3 of article 7.
The Directive says that if there was more than one form of participation in the participating companies (not in their subsidiaries) the SNB shall decide which of those forms must be established in the SE. This provision applies in the case that there is no agreement reached and the default rules are applicable. But the default rules give another rule. They provide that the highest level of participation within the participating companies will apply to the SE. It seems that on the one hand the SNB can choose which system they want, while on the other the most extensive system is to be applicable. I will discuss this problem when I come to look at the content of the default rules.
Paragraph 3 is a difficult provision. It says that member states can decide that the default rules on participation do not apply in the case of a merger. We already saw that some thresholds provide for less protection for employees in the case of merger. Why are employees less protected in the case of a merger? Point 9 of the preamble gives an explanation. It says that the reason behind this provision is the diversity of national systems for employee involvement. So because of those differences member states are given the ability to protect themselves from application of a different system of participation through the default rules. I think that the differences in national systems of law are also the main reason for the different thresholds in articles 3 §4 and 7 §2 b/c. But why do differences in national systems only matter in the case of an SE created by merger? Why doesn’t this also apply to SE’s established by the creation of a holding company or a subsidiary? In that case there can be the same differences in national systems of participation. In order to understand this it is important to look at the differences between a merger and the creation of a holding company or a subsidiary more closely. There are two big differences. The first difference between the two forms of creation of an SE is that in the case of a merger the acquired companies will cease to exist, while in the case of a creation of a holding company the participating companies will not cease to exist but become the holding company’s subsidiary. This means that in the case of a merger all the assets and liabilities will be transferred to the acquiring company, while in the case of the creation of a holding company all assets and liabilities remain at the participating companies. The second difference is that employee participation after a merger will be direct in the working company, while in a holding company it will be indirect because the working companies will be the subsidiaries of that SE in which the employees will have their participation rights. When those differences are combined, employee involvement after a merger has a much bigger effect on existing creditors, holders of bonds, holders of securities and other stakeholders then it has after creation of a holding company. Application of a different (more extensive) system of participation in the case of a merger through the applicability of the default rules can be to their disadvantage when they are from a state that does not have or has a very low level of employee participation, Spain for instance. Such a state might want to protect the creditors, holders of securities and other stakeholders of that company from a system of participation that is in their disadvantage by providing that there can’t be employee participation in the case of a merger the participating companies and the SNB reach an agreement. Another reason is that countries like Spain do not want it imposed on their companies if they don’t agree to it. Such countries want to stay clean of participation.
Point 9 of the preamble also says that existing participation rights within the level of participating companies must, where appropriate, be maintained by adapting registration rules. It is not clear what this means. Let’s assume that Spain has made the default rules not applicable in the case of a merger. It can’t mean that when a Dutch structure company merges with a Spanish company and no agreement is reached and the SE wants to register in Spain that the Dutch employees then somehow keep their participation rights while the Spanish employees don’t get participation. In such a case the SE can’t be registered at all according to article 12 §3 ECS. It says there that either an agreement must have been concluded or that none of the participating companies had participation in order to register an SE in a member state that has made use of the application of article 7 §3. Because this only mentioned in the preamble and not in article 7 §3 itself, it is not clear what the legal status of this rule is. I think that this rule cannot be applied.
Timmerman thinks that member states that make use of the provision of article 7 §3 will be attractive for the SE to register in. I do not agree with him on this. Let’s again assume that Spain has made use of the provision. A Dutch company and a Spanish company want to merge, and the default rules are not applicable. The only way that the SE can be created and registered in Spain is that there will be an agreement reached, otherwise article 12 §3 comes into force. The question of who wants the merger to take place arises then: the employees or the participating companies? Given the fact that mergers are usually followed by (large) reorganizations accompanied by a loss of jobs most employees will usually not be very excited about a merger. Since the participating companies have bigger interest in the merger, which can only take place if an agreement is reached, the SNB will have a powerful negotiating position. So by registering an SE in a state that has made use of article 7 §3, the participating companies force themselves into a position where an agreement has to be reached. This doesn’t look like a very attractive option to me.

3.3.5 The Default Rules
I have just looked at the application of the default rules. Part 3 of the Annex give the default rules on employee participation. The rules are different in the case of an SE established by transformation on the one hand and for the other ways of establishing an SE on the other.
In the case of transformation the rule is that all aspects of employee participation that were in force before the transformation shall continue to apply afterwards. If there are different participation systems applicable on the company to be transformed, the highest level of participation will apply.
This last bit also applies to the other ways of creation of an SE. The highest level of participation in force in the participating companies will be applicable to the SE. What does “The highest level” mean? As we have seen before, the Directive is only concerned with numbers. It looks at the number of members that the employees can appoint or recommend in the company’s organ. So if a Dutch company merges with a German company and the default rules apply, the Dutch system is applicable since in this system the employees have a right of recommendation for a higher number (all) of the members of the supervisory organ. We already discovered that article 7 the SNB gives a different rule for the applicable system. Winter seems to think that the SNB can choose to combine the systems, and create a system where the employees have a right to appoint (German regime) all the members (Dutch regime) of the supervisory board. I disagree with him on that. My suggestion would be that in principle the system with the highest level of participation within the participating companies applies. The SNB can then decide to apply another, less extensive form of participation, but they will choose to apply that form completely, together with the number of appointments or recommendations. Since this decision involves a reduction of participation for some employees, it will have to be made in accordance with article 3 §4, so that certain thresholds apply to protect the employees with a higher level of participation.

3.3.6. Misuse of an SE

Article 11 provides that member states should prevent the misuse of an SE for the purpose of depriving employees of involvement rights. What is a “misuse of an SE”? Is it the mere effect that employees are deprived from their rights or is there some sort of “bad motive” required? There are a couple of structural changes that can give rise to problems that could constitute “a misuse of an SE”. I will discuss two of them.

Rickford mentions the problem of growth and scale.
When a number of companies that have not got participation merge, they might exceed a threshold so that local participation rules will apply. If they merge into an SE and default rules apply, the SE will not be subject to participation however! Does this constitute a misuse of an SE? Can a member state take measures to prevent this? Rickford seems to think it can. It is clear that participation rights are withholded in such a case, but what if this is not the reason to make the choice to create an SE? Are such companies because of this side-effect not able to create an SE, while companies from a country that doesn’t apply local participation rules can?
I agree with Rickford that there should be an agreed interpretation on this.

Buijs says that an SE without participation can create a new SE as a subsidiary. For the participation in the new SE the Directive is applicable. This means that there will have to be negotiated about participation. The employees of that subsidiary SE can of course easily be influenced. That way a new SE is created without participation. The mother SE can sell this SE to anyone who wants to buy a company without participation. I understand that this can be a problem, but I don’t think that this constitutes a misuse of an SE within the meaning of article 11, since employees aren’t really deprived of their rights or withholded them. Maybe it can be brought under article 11, but again an agreed (extensive) interpretation is needed.

3. Conclusion

I have shown in my essay how the Employee Involvement Directive works. As we have seen the “before and after” principle is very important in the Directive and therefore it keeps coming back. I think that this is a good principle: employees shouldn’t be deprived of their rights due to a structural change they might not have wanted in the first place. However, I think that in the case of a transformation the principle is maintained too much. I think that it is not useful to impose participation on employees that do not want it, or to impose a certain form of participation when they want another.

We have seen that member states have the option not to apply default rules in the case of a merger. It should be interesting to see what member states will make use of this provision. I think that those member states will not become more attractive to register in. The only thing that they will achieve is that SE’s that will have the default rules will not register within their boundaries, so they will “keep clean of participation”.

In the last paragraph I have discussed a two of the problems that might form a misuse of an SE. I think that it will be very important that there will be agreed on a interpretation of article 11 of the Directive.

I am very curious to see what happens when SE’s will really be created and how the articles will work out in practice. It should be exciting to see how the negotiations on participation will be and if the default rules will be applied.