Functional Approach to Duty of Neutrality vs Board Veto Dilemma – Guidelines for Emerging Economies

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Takeover law is traditionally characterized by two basic problems: the issue of individual decision making by target company shareholders and the issue of inherent conflict of interest between members of the board of directors and the company. Legal regulations should strive to minimize these problems. That is why numerous mechanisms have been developed to mitigate them. Among them, two opposing principles that define the authority of a target company’s board of directors in a takeover are particularly significant – the principle of neutrality and the board veto rule. The principle of neutrality is the most efficient means of mitigating inherent conflict of interest between board members and the company, while the board veto rule efficiently eradicates the issue of individual target company shareholder decision making. In this article, the author begins with the question of which principle should be adopted by developing countries as their leading rule. A study of numerous papers citing the pros and cons of the two principles does not make it possible to draw an abstract conclusion that one is superior to the other and subsequently recommendable for all legal systems. This is particularly true in view of the fact that the advantages of one principle are, at the same time, disadvantages of the other. That is why the author advocates the so called functional approach, whereby each country should first determine which of the two basic issues of takeover law is better regulated by other legal norms, i.e. the resolution of which is less pressing for the country. Once such a conclusion is reached, a country should implement the principle that reduces the insufficiently regulated problem. The functional approach is not aimed at defining the “winner in the neutrality principle v. board veto rule duel”. It merely strives to determine which principle could render better results in minimizing basic takeover law related problems. By applying the functional approach to the Serbian law, the author has shown that the board veto rule is not the best solution at this particular point in time.