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This parts in its analysis. First, it

This
essay focus on the topic of directors’ duties (‘DD’) governed by the Companies Act 2006. (‘CA’)

The
statement was sourced from a ministerial statement.1 It is submitted that the
Act has a twofold aspect: it merely codifies existing common law obligation;
whilst s.172 marks a ‘strong
departure’ in that it requires directors to consider interest other than the
company’s.

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The
essay will be separated into 2 parts in its analysis.  First, it discusses the duties in common law (‘CL’)
and outline the provisions which codify the CL obligations. Following this, the
essay provides some background to the introduction of s.172. Whilst the
directors are required to consider other stakeholders’ interest in light of
enlightened shareholder value (‘ESV’), the essay argued that the provision
still lack the means to uphold it. Therefore, the statement above in relation
to s.172 marks a ‘strong departure’ is arguable.  

The
management of a company are usually entrusted to a body of persons called
directors. This is supported by Lord
Cranworth in Aberdeen. 2  Under s.250,3 a director is defined as
‘any person occupying the position of a director, by whatever name called’. They
often enjoys broad discretionary powers conferred by company’s constitution. Hence,
it is essential to impose duties on the directors to prevent them from abuse of
powers and exploit corporate opportunities in their own interest.4 As Kealy commented, DD is an important component to any
consideration of corporate governance. 5

Prior
to the CA, the law on DD comprised a mixture of CL and statute. Directors had
long been recognised as being in a fiduciary relationship to the company. According
to Davies, ‘directors are
agents of the company rather than trustees… but they stand in a fiduciary relationship
to their principal, the company’.6 As per Lord Porter in Gulliver, ‘director occupy a
fiduciary position towards the company whose board they form’.7 Therefore, the DD were initially
developed on analogy with equitable rules applicable to trustees, albeit they
are not a trustee.8

According
to Millett LJ in Bristol and West Building,9 a director has a duty to
‘act in good faith’. Moreover, they ‘must exercise their powers bona fide, in
what they considered to be in the interest of the company’.10 In common law, they owe a
duty of care and skill to the company.11

Due
to the complexity underlying CL and equity, the Law Commission and the Company
Law Review Steering Group (‘CLRSG’) recommended to restate the law on DD to
make it more accessible and for clarity purposes. 12 It was submitted that
this would enhance the standard of corporate governance.13 The restatement would
also correct the ‘defects in present law where it no longer corresponds to the
accepted norms of modern business practice’.14

As
indicated in the joint report, the aim was to bring about a change in
directors’ behaviour by educating them and provides them with ‘greater
certainty on what the law expected of them’.15

The
CA was implemented in 2007 and in essence, it restate the existing obligation
of DD. The duties are now contained in Part
10 of the CA.16 It is noteworthy that
previous case law is still relevant for the purpose of interpretation and
application. In fact, s.170(4) requires
‘the duties to be applied in the same way as CL rules or equitable principles’.17

As
Margaret Hodge expresses, ‘the
statutory expression is in essence the same as the existing law’ for the
purpose of maintaining continuity.18  Therefore, it is submitted that the
restatement ‘codifies existing CL obligations’.

Before
discussing the duties, it is worth noting that these duties are owed to the
company and not to individual shareholders by virtue of s.17019 and supported by Percival v Wright.20

Under
s.171, a director must act in
accordance with the company’s constitution and exercise it for the purpose for
which they are conferred.21 It restates the so called
‘proper purpose doctrine’ at common law held in Howard Smith v Ampol Petroleum.22 By analogy to the decision
in Eclairs,23 the provision has clarify
the obligation as it is common for the articles to grant directors broad
discretionary powers.24 Moreover, s.173 requires a director to
exercise independent judgement.25 By reference to Fulham Football, this section
reflects the CL obligation on directors not fetter their discretion.26

In
replacing the CL principle in Re
Barings,27
s.174 place a duty on
directors to exercise reasonable care, skill and diligence. The provision has set
the standard expected from a director. At CL, the directors are judged
according to a subjective standard and not of a reasonable man as demonstrated
in Re City Equitable.28 Due to the low standard
of care at CL, s.174 adopted
an objective and subjective test established by Lord Hoffman in Norman
v Theodore29
and Re D’Jan.30

Furthermore,
s.175 require directors to
avoid a conflict of interest.31 This was perceived to
codify the no conflict rule in Bray32 and no profit rule demonstrated in Gulliver,33 where the directors was
made liable for profit made from exploiting corporate opportunity. The
rationale for the overarching duty is that a prospect of personal profit may
make director careless about promoting the company’s interest.34 However, this duty is not
infringed if it was authorised by disinterested directors.35

Directors
are also restricted to accept benefits from third parties as provided in s.176.36 According to s.177,37 they owed a duty to disclose
interests in a proposed transaction with the company. Similarly, these provisions were a codification
of equitable principle of self-dealing established in Aberdeen Railway. 38  

Based
on the illustration above, it is fairly clear that the sections discussed above
was indeed a codification of existing obligations. Notwithstanding, the advantages
was that it clarifies directors’ obligation and allow the law to adapt and modernised
in this changing commercial and economic conditions.39

Nevertheless,
there is another way of looking at the Act as indicated in the statement– where
s.172 marks a ‘radical change
in articulating the connection between the company and the stakeholders that
deals with the company’.

According
to s.172, a director is
required ‘to act in the way he considers, in good faith, would be most likely
to promote the success of the company for the benefit of its members as a
whole’.40 

In
this connection, the Act require the directors to give regards to a
non-exhaustive list of factors such as the interests of the company’s
employees, the impact of the company’s operation on the community and
environment, the need to act fairly between the members of the company and the
likely consequence of any decision in the long run. Provided there is evidence
that the directors had honestly believed their action was in the best interest
of the company, there will be no breach.41

At
first sight, it appear that s.172
codify the equitable duty to act in good faith. For illustration, in Re Smith & Fawcett,42 it was stated that the directors
must ‘exercise their discretion bona fide in what they consider – not what the
court may consider – is in the company’s interest’. The same principle was endorsed
in Scottish Co-operative v Meyer,
where Lord Denning ruled that
the duty of director ‘was to do their best to promote its business and to act
with complete good faith towards it.’43

Notwithstanding,
s.172 is much wider in scope
because it introduces the notion of ESV.

The
concept was first put forward by Professor
Jensen, where he stated ‘it is obvious that we cannot maximise the
long-term value of an organisation if we ignore any important constituency. We
cannot create value without good relations with customers, employees,
communities…’44

The
sentiments expressed by Jensen
were effectively acknowledged by the CLRSG.45  The CLRSG were concerned that UK company law has
long embraced shareholder value approach46 and they want to encourage
directors to be inclusive by considering the interest of other constituencies
such as employees and the society at large.47

They
recognised the ESV concept is ‘most likely to drive long-term company
performance and maximise overall competitiveness and wealth and welfare for
all’.48 Besides that, it fits in
well with corporate governance. Hence, they proposed that the directors should
run the company not only to maximise shareholder wealth but also to take a
balanced view of wider implication of its decisions over time.

Interestingly,
the CLRSG’s objectives also resonates with the ruling of the Supreme Court of
Canada in Wise,49 where acting in the ‘best
interests of the company requires directors to maximise the value of the
corporation by considering the interests of its shareholders, employees… and
the environment’.50

It
is therefore submitted that s.172
‘marks a radical departure’ as it attempts to align the company’s interest with
the wider community’s. The provision has the advantage of clarifying that the
DD are owed to the company which was repeated in s.170(1).51 According to Lord Goldsmith, this doctrine
also ‘resolves any confusion as to what are the company’s interest and prevents
directors to identify those interests with their own’.52

However,
there are problems inherent to s. 172
which attracts considerable debate.

At
the outset, the Law Society expressed concerns that s.172 may expose commercial decision-making of directors to
judicial challenge which may lead to increased litigation.53 Consequently, this may
deter people from taking up directorship. It also criticised that s.172 provides no definition
for the term success and this may cause uncertainty as it can be interpreted
differently.

In
addressing the issue, the Department for Business, Innovation & Skills
explains that s.172 ‘captures
a cultural change in the way in which companies conduct their businesses’.54 It held that ‘pursuing
the interest of shareholders and embracing the wider responsibilities are
complementary purposes, not contradictory ones’. Therefore, it makes ‘good
business sense’ to embrace ‘wider social responsibilities’.

As
for the second issue, the use of a general term is appropriate because not all
companies are aimed at maximising financial interests for their members.55 An example is charitable
companies. Ultimately, the interpretation is best left for the directors to
decide.

Nevertheless,
ever since the Act took effect, case law have suggest the codification is not
as radical as one might think.56 The notable cases worth
mentioning are Re West Coast
Capital (LIOS) Ltd57
and Cobden Investment v RNM.58 In these cases, both
courts viewed that s.172
merely reflect the pre-existing duty, albeit it recognised that s.172 gives ‘a more readily
understood definition on the scope of duty’.59

Arguably,
the core of the duty has remained unaltered.60 It was submitted that the
prescribed factors does not introduce anything new.61 There was nothing in the previous
case law that prevent directors from considering other factors or the long term
implication when promoting the interest of the company. This is demonstrated in
Hutton v West Cork,62 where the court held that
the director must act in a way which benefits stakeholders, insofar as it will
be in the shareholders’ interest as a whole.

Despite
this, it is fairly clear that shareholders’ primacy remained the focal point in
decision-making. The Act does not guarantee the interests of other corporate
constituencies is being served for the purpose of certainty.63 Arguably, the directors may
discriminate the interest of different stakeholders to promote the success of
the company in the interests of its members. This is illustrated in  

In
Kiarie’s view,64 ESV is a compromise
between shareholder value and stakeholder theory by prevailing the interest of
shareholders whilst considering stakeholders’ interest. On this basis, it
remains uncertain whether s.172 did
marks ‘a strong departure’ in articulating the connection between the company
and the stakeholders involved in the company.

On
top of that, it is unclear if the provision meets the aim to align what is good
for the company with the benefits for the society at large. The Act does not
confer stakeholders any locus standi to sue because the duty is owed to the
company.65
Accordingly, only the company can bring an action. Unlike shareholders who can
bring a derivative action against the directors,66 there is a lack of
enforcement procedure for stakeholders to hold directors accountable. Even so,
it is unlikely for the shareholders to bring a derivative claim as it is
expensive and time consuming.  According
to Morey McDaniel, 67  ‘a right without a remedy is worthless’ and as
such, it is fairly clear that s.172
have not effectively achieve the aim.

Moreover,
the impact of the non-exhaustive list is dubious. In contrast to CL, s.172 did not codify the
objective test formulated in Charterbridge.68 It remained the case that
the court would consider what the directors believe when making that decision.69 This reflects the
traditional concern demonstrated in Carlen
case where the court must not review the quality of director’s business
judgment.70
Unless the court apply objective considerations to this subjective test,71 it is difficult to hold
directors accountable for failing to have regard to the interest stated in s.172(1).72 Additionally, Attenborough point out that s.172 empowers directors to give
their own interpretation on the meaning of success and this could increase
uncertainty.73
 

As
aforementioned, the objective for introducing s.172 was to encourage companies to be operated in light of
long term interest.74 However, these long term requirement
can be difficult to enforce in reality. First, it is difficult to ascertain the
meaning of long term and short term.75 William Allen criticises that the law brushed off the ‘the
conception by invoking a murky distinction between long term and short term
profit maximisation’.76

Second,
the directors may act in the interest of short term profit maximisation since
their interest in the company are limited by their tenure in the job.77 Furthermore, the shareholder
may pressure the directors to make decision which generate immediate returns.

To
sum up, it is arguable that s.172
wider the scope of DD in CA. Whilst the statement claimed that s.172 depart from common law
with the inclusion of shareholders and stakeholders’ interest, it is submitted
that s.172, in overall terms,
does not change the nature of directors’ duties.

As
Georgina commented,78 s.172 ‘gives the illusion to the business community,
regulators… that something is being done in UK company law in that it
acknowledges the interest of the wider community, but this is far from being
the case’. Arguably, it may be the EU influence which cause the legislator to
attach weight to other interests into CA.

In
the author’s view, the law can be improved by employing a more effective measures
to enforce third party interest.79 In spite of that, it is
submitted that the codification is still good law because it improve clarity,
certainty and enhances corporate governance. As Clarke indicates, a company’s sustainability are connected to
their corporate governance system.80 Moreover, it is important
to incorporate a flexible mechanism into UK company law taking into account of
the role of UK companies and the competitive environment.81

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