Background

In a recent Supreme Court ruling (KKO 2026:9), the court assessed the competence and the authority of the managing director of a limited liability company to take out a loan of a significant amount and pledge the shares owned by the company as collateral for the loan. In its ruling the Supreme Court found that the managing director of the company had both the competence and the authority to agree on a significant loan and collateral arrangement, as the managing director had been granted a position-based right to represent company pursuant to a provision in the Articles of Association, in a situation where, among other things, the loan and collateral arrangement was related to a broader transaction, was in line with the company’s business objectives and did not increase the total debt of the company.

In the case, a limited liability company operating in the construction sector had bought the shares of a housing company, which entitled it to control the apartments under construction, and carried on the construction of the apartments. Part of the purchase price of the housing company shares had remained as debt of the construction company. The managing director of the company, who, according to the Articles of Association had the right to represent the company independently, had subsequently taken out a loan of EUR 3.7 million from the bank, with which the company had paid the final purchase price of the housing company shares, and pledged the housing company shares as collateral for the loan. After the completion of the apartments, the company had used the funds received from the sale of the apartments to repay the loan to the bank.

In its ruling, the Supreme Court assessed two questions in particular:
1. whether the managing director was capable of representing the company in taking out a bank loan and providing security, and
2. whether the managing director had exceeded their authority.

Overview of Competence and Authority

A limited liability company is a legal entity that always needs a natural person to represent it in one way or another. Finnish company law distinguishes between the representative’s competence, on the one hand, and the representative’s authority, on the other. Competence refers to the representative’s right to represent the company in relation to third parties. Competence can be understood as being based on externally observable characteristics: it is mainly limited by the restrictions under the Companies Act and the Articles of Association (e.g., the so-called collective restriction, according to which the company is represented by two persons together), the division of duties between the board and the managing director, and the mandatory provisions of the Companies Act. Under the Companies Act, the board has the general competence to represent the company. The managing director, on the other hand, may represent the company in matters that fall within their duties.

In this case, however, the managing director had been granted the general right to represent the company alone by a provision in the Articles of Association, which broadens the managing director’s competence to correspond that of the Board of Directors’. On the other hand, it should be noted that the competence to represent does not in itself confer an independent right to make decisions, but it is only a question of representing the company in relation to third parties.
In contrast, the representative’s authority is a matter of the relationship between the company and the representative, and it is not necessarily perceptible to third parties in the same way as the representative’s competence. For example, the right of representation granted to an employee of the company’s management is shown in the company’s Trade Register extract, which gives the person in question the competence to perform almost any kind of legal acts on behalf of the company. However, the authority of the person entitled to represent the company may be limited, for example, by instructions issued by the Board of Directors or the managing director or by the company’s internal policies. Thus, the authority of the representative is often narrower than competence.

In practice, the significance from the point of view of a third party and the company is that a legal act carried out within the limits of competence is binding on the company, even if the representative had exceeded their authority, if the third party was unaware and should not have been aware of such fact, i.e. was in good faith, so to speak. Instead, a legal act that exceeds the representative’s competence is not binding on the company regardless of the awareness of the third party.
Under the Companies Act, the managing director’s general competence is limited to managing the company’s day-to-day administration in accordance with the instructions and orders issued by the Board of Directors as well as arranging accounting and management of the company’s finances. Therefore, the managing director’s competence does not include unusual or far-reaching acts. It must be assessed on a case-by-case basis, which actions belong to the company’s day-to-day management and which are unusual or far-reaching, based on the nature and scope of the company’s operations, business practices and the company’s objectives by taking into account, among other things, the nature of the legal act and the magnitude of the related economic interest and business risk in relation to the nature and scope of the company’s operations.

Reasoning of the Supreme Court

In the ruling at hand, the Supreme Court stated that since the company’s Articles of Association granted the managing director the right to represent the company independently, and considering that the loan agreement didn’t violate the mandatory provisions of the Companies Act nor require approval from the General Meeting, the managing director had the competence to take out the loan and pledge the housing company shares.
As to the managing director’s authority, the Supreme Court held that the amount of the loan and the value of the pledged housing company shares were significant in relation to the company’s turnover. However, the overall arrangement, to which the taking out of the loan and setting the collateral related to, had to be taken into account. Since the buyer of housing company shares was already known at the time of taking out the loan, financing was needed to complete the construction project, the financing was short-term in nature, the housing company shares were current assets of the company and they were already in the possession of the bank as collateral for a financing arrangement related to the same project, and as the company’s total debt did not increase, the Supreme Court found that the arrangement was in line with the company’s business objectives and thus fell within the authority of the managing director, and the managing director had not needed an authorization from the Board of Directors for the legal acts.

Conclusion

There have already been numerous Supreme Court precedents on the division of authority between the Board of directors and the managing director. The exact limits of such division of authority between the Board of Directors and the managing director always depend on the case- and company-specific circumstances. The precedent at hand provides further interpretative guidelines for assessing the limits of a managing director’s authority in different situations. In any case, regardless of the legal guidelines contained in the ruling, appropriate documentation of corporate resolutions and possible authorizations is of utmost importance in order to avoid the discussion in the first place about the authority of the representative of the company or the binding nature of the legal act in relation to the company.

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