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Companies Bill: Duty to promote the success of the company

17th October 2006

After seven years of consultation and 10 months of Bill process, involving several thousand amendments-650 of them tabled by the Government in the past week-we near the end of the process on the largest Bill in history.

Mr. Djanogly: I declare my interests as they appear in the Register of Members' Interests. After seven years of consultation and 10 months of Bill process, involving several thousand amendments-650 of them tabled by the Government in the past week-we near the end of the process on the largest Bill in history. One issue that is directly relevant to every group of amendments to be discussed on Report is the timing of implementation. There is much speculation and there are many rumours going round the City and the law firms on that point. It would be most helpful if the Minister could set out the position when the opportunity arises for her to do so.

I will speak to our amendments Nos. 392 to 398. As the hon. Member for Bedford (Patrick Hall) said, the issue of directors' duties to promote the success of the company as set out in clause 173 is the area of the Bill that has probably courted the most controversy. I do not believe that the Government really wanted that when they set out with the Bill, but gradually, possibly over seven years of consultation, they have dug themselves into something of a hole on these provisions, from which they are now finding it difficult to extract themselves. We have seen that in the conflicting messages from Ministers since the Committee stage. It was interesting to hear the hon. Gentleman say that we are sending out conflicting messages. I suggest that quite the opposite is the case.

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For example, in an article in the Financial Times of 26 September, the Minister, then at the Labour party conference, was reported as saying that the Government were listening to lobbyists and could still use regulations to increase reporting and behavioural requirements for directors, once the Bill was

"in force and people start understanding it".

On the other hand, the Secretary of State was reported as saying, within 24 hours of the Minister of State's remarks, that the Government did not intend to introduce any changes on Third Reading. I am therefore slightly confused, not least because, without advising us, the Minister tabled amendments to the provisions on accounts and reports, which we are to discuss tomorrow.

The plot thickens yet more. The Minister needs to advise the House whether there is a secret Labour, or perhaps trade union, agenda, or whether two Department of Trade and Industry Ministers are pulling in different directions. Of course, new clause 4, tabled by Labour Back Benchers, creates a third position. Business expects a clear direction from the Government, but in this respect it is not getting it.

Jim Cousins (Newcastle upon Tyne, Central) (Lab): Perhaps the hon. Gentleman will tell the House how his amendment, No. 392, which would qualify the requirement so that a director would have to act in good faith according to the size of his company, makes matters sharper, clearer or more precise.

Mr. Djanogly: To put it briefly, we have tabled the amendment because the Conservative party believes that small companies are more susceptible to regulation and that their individual circumstances should be taken into account.

In our amendments, we are attempting to take a constructive approach to improving the provisions, as the hon. Member for Bedford acknowledged. The amendments therefore take account of the still widespread concerns throughout the legal and business communities. We do not feel that they would weaken the Government's position; that is not our intention.

Part 10 and clause 173 are designed to codify existing, mainly common-law, principles relating to the responsibilities of directors. That has led to vociferous and growing complaints from across the legal and business communities that those provisions in particular could cause company law to be altered dramatically for the worse. Historically, judges have had the discretion to deal with complicated issues relating to directors' duties on a case-by-case basis; that system has been adaptable and effective in dealing with cases that are often complicated and highly technical. The existing duties found in common law rules and equitable principles which have been built up over the years in the courts are now to be replaced by the statutory statement in part 10. A flexible system is to be replaced by an inflexible one.

On the one hand, the Government have said that there will be no change in the common-law position; yet on the other hand, they have introduced the concept of enlightened shareholder value, which all legal experts agree will alter the common-law position of acting in the best interests of the company. We believe that there is a fundamental gap in the Government's train of thought: either they are introducing a new concept-enlightened shareholder value-which is an extension of the common law, or they are simply codifying the existing common law. The Minister has still not made clear which course the Government are taking. According to the many interested parties whom we have consulted on the Bill, the position seems to be clear: if the audience is business-oriented, the Government message is, "Don't worry-nothing is going to change. This is only a restatement of the existing common-law position."

Mr. Redwood: I remind the House that I have declared my interest as a company director in the register.

Taking for an example the part of the clause on the environment, does my hon. Friend think that it means that a company director would have to do more than simply comply with all existing environmental and planning laws to show that he had satisfied that requirement?

Mr. Djanogly: My right hon. Friend makes an important point. It can be argued that the law would not be expanded. However, companies have told us that dealing with it on a daily basis will involve going through more red tape, setting out the steps that they take when reaching decisions in a way that has not previously been thought to be necessary. They regard that as otiose. Indeed, the Minister and I attended a conference in the City at which counsel for a very large public company made exactly that point. Companies are concerned by the proposal.

Patrick Hall: The hon. Gentleman conceded in Committee and today that successful companies do these things anyway, and do so while being successful, so how does he equate the two and why does he see it as burdensome?

Mr. Djanogly: I certainly agree that a successful company will have regard to many of the items set out in the list in clause 173. That is not in dispute. However, the experts are saying that for companies to be able to show that they have complied with the clause will require further red tape, which they believe is unnecessary.

Stewart Hosie (Dundee, East) (SNP) rose-

Mr. Djanogly: I shall make progress.

The Government change their viewpoint, depending on the audience.

Margaret Hodge: Will the hon. Gentleman give way?

Mr. Djanogly: No. I shall finish my point. If the audience is a campaigning body, the Government's tactics seem to change. They go on to talk about the concept of enlightened shareholder value and how it will change things. For instance, I mentioned the conflicting statements made by the Minister and the Secretary of State at the Labour party conference. Perhaps the Minister will explain how those are complementary.

Margaret Hodge: I thank the hon. Gentleman for giving way. I shall explain the Government's view when I respond to the amendments. I am interested in the Conservative party's point of view. Does the Conservative party support clause 173 with its acceptance of enlightened shareholder value-yes or no?

Mr. Djanogly: In the puerile terms of the Minister's question, the answer is no. Do we have sympathy with the concept of enlightened shareholder value in its most amorphous terms? Yes, we do. Of course, we do not accept the clause as drafted, because I have just proposed half a dozen amendments to it. We think that it can be improved. Are we suggesting that the clause should be taken out of the Bill? No. The clause should stay in the Bill, but needs significant amendment.

Mr. John Gummer (Suffolk, Coastal) (Con): Should not my hon. Friend bring home to the Minister the point that the measure has been got together to get off the hook that the Chancellor of the Exchequer got us on by unilaterally removing the legislation that had been promised? Is this not a fake organisation by the Government to try to get themselves off the hook with the green movement, whose members realise that the Government are all talk and no do?

Mr. Djanogly: My right hon. Friend puts his point strongly. As I said at the outset, the Government are trying to dig themselves out of a hole by means of the clause. There is no point in the Minister asking me "yes or no" questions because the matter is rather more complicated and sophisticated than that. I shall come to the Conservatives' viewpoint in terms of corporate social responsibility, if she will only give me a chance.

If we look at where the pressures are coming from, we can see from its briefings that the TUC supports codification and makes an explicit link between the success of the company, the interests of employees and the other matters for consideration listed in the clause, and makes it clear that directors should have regard to these matters. The TUC sees that link as a significant step and wants clear and comprehensive guidance and reporting, which it sees as contributing to raising standards of corporate behaviour. How does a significant step not constitute a change? The Minister must come to terms with that anomaly in her position.

Our party supports many of the good intentions voiced by the Government when they talk about enlightened shareholder value. We have no problem with any of the individual items listed in clause 173, as I made clear to the hon. Member for Bedford in my intervention. For the most part, they exist as common- law responsibilities in current law. However, in the context of sound law, these intentions can easily slip into platitudes, and that view is reflected by many commentators on the Bill.

The Association of British Insurers supports the enlightened shareholder value approach, but says:

"We have nevertheless had concerns that codification might lead to a compliance driven approach to the exercise of directors' duties rather than one based on the making of good-faith judgements. This could lead directors to take expensive and time-consuming legal advice, impair efficient decision making and add an unnecessary layer of bureaucracy to board practices. Codification of directors' duties would not then achieve its goal of greater transparency and accountability, but instead create new uncertainties and larger administrative burden."

The Law Society says that it

"doubts that the savings for business which the government anticipates will be achieved. On the contrary, the new provisions on directors' duties will result in new uncertainty, increased legal costs and additional bureaucracy...In particular, the Law Society believes that the new code is inflexible-at present, the courts have considerable freedom to develop the law on directors' duties to suit changing needs and expectations and in practice the code will not be more accessible than common law rules, as its meaning will over time become less and less clear to a reader who does not also understand how it has been interpreted and applied by the courts."

It is very clear that while the Government protest that they are not changing the common-law position, they are doing just that-a course that will lead only to confusion where there should be clarity. But also, and in some ways even less helpfully, the clause could impede the future development of the common law, which is a very developed area in this country compared with many other jurisdictions.

The list of the six factors to which a director must have regard as set out in clause 173 seems arbitrary. It has been calculated that some 650 common law duties of directors have been laid down through the common law and various statutes over the years, and in Committee, as the hon. Member for Bedford mentioned, I set out quite a number of those. Why have the six in the Bill been deemed more important than all of the others? We recognise that putting the duties into one format would give clarity to company directors. That is why we have supported, in amendment No. 398, the Law Society's proposal to publish a non-statutory guide to directors' duties.

David Howarth (Cambridge) (LD): May I ask the hon. Gentleman the question that I asked the Committee, which is how can guidance in a statute be non-statutory?

Mr. Djanogly: I am not saying that the guidance should be statutory; I am saying that an obligation to provide guidance should be put into statute. I think that the Government have said that they intend to give non-statutory guidance to directors, but they have not yet done so, and it would be helpful if the Minister could say when that will happen.

The factors to which a director must have regard, as set out in clause 173, include many responsibilities that directors already have to have regard to as set out in statute, such as environmental concerns. In some cases the Government are weakening existing statutory duties. Although the Government have taken some of the more fashionable responsibilities already imposed on directors by statute or common law, they have curiously chosen to ignore others.

Margaret Hodge: Which ones?

Mr. Djanogly: I think that I gave the Minister a list of about 45 in Committee and I will leave it at that.

We are not arguing here that all directors' common- law and statutory duties should be put into statute. That would be nonsensical, particularly as the common-law duties are being advanced all the time. However, amendments Nos. 393 and 395 would oblige company directors to give consideration to all other common-law duties of directors. A non-statutory guide, as provided for in amendment No. 398, could then give directors some guidance as to what these duties are, without the guidance being enshrined in statute.

A May 2006 Financial Times lead article entitled "A missed opportunity" says:

"The stated aim was to make directors' duties clearer and more up-to-date. The reality is a confused list that mixes platitudes with necessary duties...the Government's approach betrays an underlying mistrust of business."

This area has also prompted serious concerns from the legal profession. A host-I say a host-of major corporate law firms, whose job it will be to interpret the clause, have told us that the matters listed in clause 173(1)(a) to (f) make a rigid list of factors that may artificially constrain the decision-making processes and provide inappropriate challenges to the way in which directors have exercised their discretion. The list of factors set out in clause 173(1) is applicable to all types and sizes of company, but the listed matters may not be appropriate for directors to take the best decision in all circumstances. The director of a major plc and the sole director of a corner shop will not take into account the same factors when they make important decisions, and the judgment of directors is at real risk of becoming artificially fettered by their having to tick-box through a checklist of factors that may have no relevance to what their company does.

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The Law Society has pointed out that the list of factors in clause 173(1) which a director must consider raises the possibility that the courts will be given the power to review business decisions made by directors in good faith, thereby undermining the well-established business judgment rule. That could adversely affect the management of companies and be a significant burden for businesses in terms of both time and cost, because businesses would have to examine those factors before taking any decision. That is why we have tabled amendment No. 393 on the recommendation of the Law Society, the CBI and the Association of British Insurers. It would require directors to take into account all those factors only if those factors are relevant to the matter under consideration and if it is reasonably practicable to do so, which would qualify the requirement to take all the factors into account all the time.

Amendment No. 788 would tie clause 173 to large companies, relieving smaller companies of extra bureaucracy and red tape.

The introduction of factors to which directors are required to have regard in discharging their duty under clause 173 may also create new uncertainties for third parties. That is because a transaction entered into with a third party who has notice of a breach of a fiduciary duty by one or more of the directors relating to the transaction is voidable at the option of the company, which may result in third parties seeking an assurance that directors have complied with that duty and have had regard to the factors listed in clause 173.

We also believe that directors will be more exposed to actions for breach of duty, in particular following a takeover or in the event of a company becoming insolvent when there is new management, which may want to recoup losses from whatever source is available, including previous directors. An increase in the risk of personal liability is likely to discourage many individuals from taking up directorships of UK-incorporated companies and is also likely to discourage those who take up directorships from taking decisions which might give rise to personal liability in the future, if those decisions ultimately turn out to be detrimental to the company.

David Howarth: The hon. Member for Bedford (Patrick Hall) has already raised those accusations. The question is: what loss can a company suffer as a consequence of the breach of those duties which would be actionable in the circumstance described by the hon. Member for Huntingdon (Mr. Djanogly)? I remind him how the law works: it must be the company's loss, not somebody else's.

Mr. Djanogly: With respect, the hon. Member for Bedford was not supporting my point. The hon. Member for Cambridge (David Howarth) has missed the point that clause 173 must be taken with other provisions in the Bill in order for one to conclude that directors may have greater liabilities. If one puts those provisions together, one comes up with that answer, which does not allay my fears.

Amendment No. 394 would require directors to consider only those factors which they, in good faith, considered relevant to the matter in question. Provided that they acted in good faith, their decision on the relevance of a particular factor could not be called into question by the courts, except to the extent that the directors acted in breach of their duty to exercise reasonable care, skill and diligence.

Concerns have also been raised that the list does not make clear the ranking of the factors. That is why we have tabled amendment No. 396, which states that no one duty should take precedence over another.

The fundamental problem with clause 173 is that it clouds the paramount duty of directors to consider the best interest of the company; I do not think that the hon. Member for Bedford was saying that that should not be the paramount duty. This is the kernel of the issue: as I have said, the other duties are all important, but the ultimate responsibility of a director is to the best interest of their company, and from that fundamental duty all other responsibilities spring. By clouding that duty, the Government will do a great disservice to company law and company directors for a long time to come. That is why we have tabled amendment No. 397, which states that

"The duty to promote the success of the company shall be paramount."

The hon. Member for Bedford promoted his concept of corporate social responsibility. Let me spend a little time addressing his concerns. CSR is now taken more or less seriously by all the larger companies based in this country; it is generally agreed that it is no more than good business sense to do so. My party, too, has shown how highly it values CSR. We in the Conservative party support social responsibility in companies. We believe that companies, in preference to the state, can and should be a positive driver of environmental and social change. In fact, we have placed increased corporate responsibility at the top of our agenda, even in being what my right hon. Friend the Member for Witney (Mr. Cameron) called a "critical friend" to big business when necessary. No Member, certainly no Conservative Member, would dispute that increased CSR is a good thing and a developing area.

However, we argue that this Bill is not the place in which to place unnecessary non-specific mandatory burdens on company directors of all UK companies. That will not only lead to uncertainty and the fear of litigation but set back an agenda that my party supports. The environmental agenda, which was mentioned by my right hon. Friend the Member for Suffolk, Coastal (Mr. Gummer), is of prime importance to Conservatives; that is why we say that we need a climate change Bill. However, that is different from making broad statements in a very precise Bill, which will lead to more tick-box exercises by companies with little gain to the environment. There are many campaigns to improve corporate environmental and social involvement across the world-indeed, sometimes across companies.

The problem is that very few of the companies involved will be affected by the Bill, because most such multinational companies are non-UK companies. Let me be frank: we can make our company law regime as rigid as we wish, but it will not matter a jot to most of the companies that hon. Members probably have in mind, and will therefore not go far in helping to further their individual campaigns. Most major multinational companies that are UK-listed already take CSR very seriously and spend considerable amounts of time and money on it. We can all too easily ignore the fact that many publicly listed companies sell themselves on their CSR reputation. Furthermore, increasing numbers of shareholders are realising that they can exert a positive influence on the companies that they ultimately control, and we wish to encourage that. The rise of "green" and "ethical" investment funds operated by most of the major fund managers has made them clearly aware of CSR, and it is now simply bad business for a major PLC to ignore it.

The vast majority of companies affected by the Bill-perhaps 99 per cent.-are small and medium-sized companies. Those companies, which are rarely the target of environmental or social campaigns, already have enough troubles without being asked to jump through a series of statutory hoops. Because the Bill deals with UK companies, it does not have the framework to deal with the issues on which activists have been campaigning. It treats the corner shop in the same way as the multinational. It is the wrong place to be dealing with these issues, important as they may be. That is why we tabled amendment No. 392, which proposes that duties shall be appropriate to the size of the company, and amendment No. 788, which would exclude small and medium-sized companies from the provisions.

Many organisations have taken an active interest in the Bill, and I have met several of them. In Committee, the hon. Member for Bedford stated that a voluntary approach would not work and referred to examples of corporate, social and environmental abuse. He hoped that providing legislation on that would raise the bar for CSR. However, the Bill as drafted will merely provide vague language to govern directors and serve to confuse businesses, particularly small and medium-sized companies. That is why we tabled an amendment that would limit it to larger companies.

That said, we believe that the UK should be the world leader in promoting good CSR. Where UK companies lead, Conservatives believe that other companies will follow. However, the answer to leading the way in CSR is not to impose a heavy regulatory burden on our companies but to encourage investors to take into account a company's record on CSR and to encourage all the companies in the UK to understand that being socially responsible is in the best interests of the company. Governments certainly have a role to play in this; indeed, we often forget the need to use carrots for best practice as much as threatening the stick of regulation. I have no doubt that CSR will also be moved ahead by market forces. Informed consumers voting with their feet will always be a more effective way of getting companies to take up their CSR responsibility than regulation will ever be.

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