Sustainability in Commercial Law and Liability of the Board of Directors
This article is prepared in accordance with the presentation at the Law and Sustainability Symposium organized by Altınbaş University Faculty of Law in Istanbul on November 2, 2023.
Introduction
Companies are undergoing a transformation and development in terms of their objectives nowadays. There is no doubt that the main purpose of companies is to generate profit. However, while achieving this goal, companies should not ignore their impact on the environment and society and should act responsibly towards nature, future generations, and society. This may place a particular responsibility on the members of the board of directors who are in charge of representation and management of the company. The role and responsibility of companies in creating a sustainable future is still maturing and open to improvement.
I. Sustainability and ESG (Environmental, Social and Governance)
Sustainability and ESG are different but closely related notions. The concept of sustainability was defined in the text entitled "Our Common Future", also known as the Brundtland Report, published by the United Nations World Commission on Environment and Development in 1987. According to this report, sustainability is defined as "development that meets the needs of the present without compromising the ability of future generations to meet their needs"[1]. Today, sustainability can be characterized as the improvement of life, considering the welfare of future generations through actions to reduce the impact of climate change. In this context, policies that pursue positive goals for the environment and society can be considered as sustainable.
ESG is an acronym that stands for Environmental, Social and Governance. The term ESG was first used in 2004 in the report "Who Cares Wins", published in the aftermath of the United Nations Global Compact[2]. ESG provides a framework for companies to foresee their responsibilities in the context of sustainability. In this respect, ESG is narrower than sustainability. However, the concept of ESG continues to evolve. Today, ESG is used in many different ways: as a tool for assessing investment opportunities and risk management, as a criterion for corporate social responsibility, or as an ideological choice.
II. Statutory Provisions
Due to the increase in the importance of sustainability, companies, governmental authorities and legislators in Turkey have started to adopt mandatory or incentive rules. The main provisions on sustainability and ESG are enacted in the Turkish Commercial Code ("TCC"), Capital Markets Law ("CML"), and secondary legislation.
A. Turkish Commercial Code and Capital Markets Law
Mandatory rules on sustainability are limited. Companies mostly adopt sustainability regulations through their internal directives or articles of association. The main provision on sustainability regarding company law is paragraph 6, which was added to Article 88 of the TCC in 2022. According to this provision, the Public Oversight, Accounting and Auditing Standards Authority ("POA") is authorized to determine and publish "Turkish Sustainability Reporting Standards" ("TSRS") in line with international sustainability standards in order to ensure unity in practice and international validity of sustainability reporting for the enterprises and organizations it specifies”. The purpose of the provision is to indicate how the company responds to social, environmental and corporate governance issues. It is also stated that it is aimed to provide adequate information on sustainability when investment decisions are being made.
POA published two texts titled "Draft Text on IFRS S1 General Provisions on Disclosure of Sustainability-Related Financial Information"[3] and "Draft Text on IFRS S2 Climate-related Disclosures"[4]. The common objective of both drafts is to require companies to disclose information on risks and opportunities related to sustainability.
The CML published the Communiqué on Corporate Governance ("CCG") and the Corporate Governance Principles ("CGP"). Although the principle of "comply or explain" prevails in these texts, a limited number of mandatory provisions were included. Mandatory provisions address the governance structure of the company and the relationship between the company and the shareholder.
One of the important principles related to sustainability is the principle of "public disclosure" which is addressed under Article 128/1-b of the CML. The relationship between ESG and sustainability is mainly regulated under secondary legislation (CCG and CGP).
B. Corporate Governance Communiqué No. II-17.1 and Corporate Governance Principles
The incorporation of ESG principles into Turkish law was possible as a consequence of the introduction of the Sustainability Principles Compliance Framework ("Compliance Framework")[5] by the CMB and the amendments[6] made to the CCG in 2020. With the amendment to the CCG, companies subject to the CGP are also required to comply with the principles set out in the Compliance Framework. The Compliance Framework classifies the principles that a company should consider as a basis when conducting ESG activities into four groups. These include general principles, environmental principles, social principles, and corporate governance principles. Furthermore, with the amendment made under Article 8/1 of the CCG, it is specified that reporting is required on whether the relevant principles have been complied with, the reasons for non-compliance, and the impacts of non-compliance on environmental and social risk management.
Article 2.2.2.2/g of the CGP stipulates that the annual report shall include information on social rights and vocational training of employees and corporate social responsibility activities related to company activities that have social and environmental consequences. Article 3.5.2 of the CGP Annex obliges the company to be sensitive to social responsibility and to comply with environmental, consumer, and public health regulations and ethical rules. It is also included in this regulation that the company must respect human rights and fight against corruption.
III. Impact on the Liability of the Board Members
The board of directors is the body responsible for the representation and management of companies. The liability of the members of the board of directors is governed under Article 553/1 of the TCC. If the members of the board of directors violate their obligations arising from the law and the articles of association, they shall be liable for the damages caused against the company, shareholders, and creditors of the company.
A. Requirements and Aspects of Liability
In order to establish the liability of the members of the board of directors, an unlawful act, causal link, fault, and damage are required.
For a board member to be held liable, there must be a breach of an obligation stipulated by statute or the articles of association. This violation must be caused by the fault of the member of the board of directors. However, such violation does not necessarily have to be specific to commercial law provisions and the board member shall be liable even in case of violation of other provisions, provided that there is a causal link between the damage incurred and the unlawful act.
Board members can be held liable for both indirect and direct damages. In case of indirect damage, the shareholders and creditors demand the reimbursement of the damage to the company. In case of direct damage, the damage shall be compensated to the creditors and the shareholders themselves.
The liability of the board of directors is essentially a duty of care. The liability of the members of the board of directors is based on the care of a prudent director and they can only avoid liability by proving that they have demonstrated the relevant care. The duty of care of the prudent director extends to business judgment. Within the scope of the duty of care, the board member shall not be liable for the resulting damage if he/she has observed the company's interest in good faith by not violating the mandatory provisions. Any decision shall be considered a business judgment if it is made in an impartial manner, in accordance with the CGP, after adequate investigation.
B. Liability of Board Members Regarding Sustainability
Some of the provisions discussed above are formed as soft law rules and adopt the "comply or explain" principle. It is arguable whether the breach of non-prescriptive soft law rules may give rise to the liability of the board member under Art. 553 TCC. Moreover, compliance with sustainability or ESG rules is not explicitly regulated as an obligation of board members. Therefore, whether sustainability can be included within the scope of the duty of care of board members should be analyzed through interpretation.
C. Concept of Company Interest and its Relationship with Sustainability
Company interest remains undefined in statutory provisions and continues to evolve through practice. Three views can explain the concept of company interest in terms of the liability of board members.
The first one adopts shareholder primacy. According to the shareholder primacy view, the interest of the shareholder is equivalent to the interest of the company. The second one is called the stakeholder theory. The stakeholder theory suggests that it is also necessary to consider the interests of groups other than shareholders. The impact of companies on economic affairs is immense and their purpose goes beyond generating profits towards addressing the problems of humankind and the planet. The third is a mixed view. The mixed view blends shareholder primacy and stakeholder theories. According to this approach, it is essential for companies to generate profits but in doing so, interest groups should be respected and profit policy should be based on sustainable principles.
In company law, continuity is considered in the context of the continuity of the business. The company mustn’t harm the continuity of society and the environment while ensuring a community of its own. International provisions also indicate that legislators tend to include sustainability within the scope of company interest and encourage companies to operate in this direction.
Furthermore, it would be misleading to limit the scope of sustainability to the environment and "green". The company's interest should include all shareholders, the public, society, and socially vulnerable groups.
Conclusion
Although the regulations under Turkish law do not directly address the liability of the board member within the scope of sustainability, amendments have been made in the statute and secondary legislation regarding sustainability.
Since the responsibility of the board member within the scope of sustainability is not explicitly regulated, it develops through interpretation. The scholars in the literature argue that company directors should consider the public interest and company employees, human rights, and the environment. In this context, sustainability is not limited to the environment and climate from a legal perspective. To examine the responsibility of the board member, it is also important how the company's interest is defined.
Among the views on company interest, the mixed view and stakeholder theory are more closely related to sustainability. According to these views, companies should protect the public interest, the environment, and the interests of other groups, even if the purpose of the company is to generate profit. The board of directors should act accordingly.
Sustainability has closely affected the rules of law, the approach of companies to commercial life, and the duty of care of board members, and will undoubtedly continue to do so and create new areas of debate.
- United Nations General Assembly, Report of the World Commission on Environment and Development: Our Common Future, 1987 (Date of Access: 04.12.2023)
- The Global Compact, Who Cares Wins Report, Financial Sector Initiative (Date of Access: 04.12.2023)
- To view all text see. https://kgk.gov.tr/Portalv2Uploads/files/Sustainability/S1-Site.pdf; (Date of Access: 04.12.2023)
- To view all text see. https://kgk.gov.tr/Portalv2Uploads/files/Sustainability/S2-Site.pdf; (Date of Access: 04.12.2023)
- Borsa İstanbul (2020), CMB published “Sürdürülebilirlik İlkeleri Uyum Çerçevesi” (Sustainability Principles Compliance Framework), (Date of Access: 04.12.2023)
- Communiqué Amending the Capital Markets Board's Communiqué on Corporate Governance numbered II-17.1 (II-17.1.a).
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