The United Kingdom's Corporate Law Overhaul: the Companies Act 2006

The United Kingdom’s Corporate Law Overhaul: The Companies Act 2006 By Stuart Borrie and Anne Stojanovic

UK corporate law has been substantially rewrit- provides that “regard shall be had to the correspond- ten for the first time in a generation. The Companies ing common law rules and equitable principles in Act 2006 (the Act) is being implemented in stages, interpreting and applying the general duties.” with approximately one third already in force. The remaining provisions will be implemented in The codified duties are as follows: tranches. The last implementation date is expected to be October 1, 2009, when all the provisions • Act within powers; will be in force. Whilst the Act is, in many cases, a consolidation of existing law, there are substantial • Promote the success of the company and, in exer- changes. cising this duty, the directors must have regard to a number of factors including the long term consequences of the decision, the interests of Codification of Directors’ Duties the company’s employees, the need to foster the company’s business relationships and the impact The duties owed by a director have developed by of company’s operations on the community and application of fiduciary principles by the courts. the environment; The Act has introduced a series of statutory duties which largely correspond to those duties already in • Exercise independent judgment; existence, however, there are many other duties— both statutory and non-statutory—to which direc- • Exercise reasonable care, skill and diligence; tors must have regard (such as the duty to consider the interests of creditors in times of threatened • Avoid conflicts of interest; insolvency). • Not to accept benefits from third parties; and The intention of the Government in codifying the law relating to directors’ duties was to provide • Declare any interest in a proposed transaction or greater clarity on what is expected of directors and arrangement. to make the law in this area more accessible. In addition, the UK Government wished to embed in statute the concept of “enlightened shareholder Derivative Claims value”—which has influenced the drafting of the duty “to promote the success of the company.” The The Act has introduced a new statutory regime codification of directors’ duties came into effect on for “derivative claims”—claims made in the compa- October 1, 2007 (other than the rules regarding con- ny’s name. This replaces very limited common law flicts of interest and declarations of interest which rights. It is now possible for a claim to be made by a will come into force on an as yet unspecified date). shareholder in respect of any actual or proposed act or omission involving negligence, default, breach of In common with the duties developed by the duty or breach of trust on the part of a director. As courts, the codified duties are owed by the directors a result, a claim may be brought in respect of an to the company. The common law and equitable prin- alleged breach of any of the general duties of direc- ciples developed by the courts remain relevant when tors referred to above. considering the new provisions: the Act specifically Concern has been expressed that the new derivative claims procedure—alongside the new statutory Stuart Borrie is a Partner, and Anne Stojanovic is a Professional statement of general duties—will expose directors Support Lawyer, in the London Office Company Department of to significantly greater risks of shareholder-driven Kirkpatrick & Lockhart Preston Gates Ellis LLP. litigation. The UK Government has attempted to

Volume 16, Number 1 29 The Corporate Governance Advisor address these concerns by introducing a vetting pro- accounts before a general meeting. Such companies, cedure to be administered by the courts. This pro- however, will continue to be required to send the cedure requires the shareholder making the claim accounts to shareholders when the accounts are to apply to the court for permission to continue the filed with the Registrar of Companies or not later claim. The Act sets out a number of factors which than nine months following the end of the financial the court must consider in making its decision, year (whichever is earlier). including whether the shareholder is acting in good faith and the likelihood of ratification of the act in In provisions expected to come into force in April question. In considering whether to give permis- 2008, it will be possible for a company to limit the sion, the court must have particular regard to any liability of its auditors, if the company so resolves. evidence and views of shareholders of the company As would be expected, there will be limitations—for who have no personal interest in the matter. example, no agreement can reduce the auditor’s liability to less than an amount, which is fair and reasonable in all the circumstances. Directors’ Residential Addresses Under further changes from April next year, it Under new provisions, designed to protect direc- will be an offence for an auditor to cause an auditors, it will no longer be necessary for directors to tors’ report to include any matter which is mislead- provide details of their home addresses for inclu- ing, false or deceptive in a material particular. It sion on the public register. Instead, directors will be will also be an offence for an auditor recklessly to able to give a service address. Another register, only omit certain statements required by the Act such accessible in limited circumstances, will contain as a statement that a company’s accounts do not their residential addresses. Under the current law, agree with the company’s accounting records and directors’ addresses can be withheld only by order returns. of the court. The new provisions are expected to come into force in October 2009. Meetings and Resolutions Unfortunately, this change will have no effect on information already on the public record so, unless As part of the UK Government’s policy to they move house, directors whose home addresses “think small first” and to simplify the law relating have already been filed will have no protection. A to private companies, the Act has introduced a new UK Government statement has indicated, though, approach to meetings and resolutions which should that regulations will be introduced allowing for- simplify the administration of private companies. mer directors and secretaries to have their details removed where practicable. Changes have also been made to the law relating to the meetings and resolutions of public companies. The changes for private companies include: Company Secretaries • Removal of the requirement to hold annual gen- The requirement that a UK private company has eral meetings; a company secretary will be removed in provisions expected to come into force in April 2008. If they • A new written resolution procedure; and so wish, private companies will be able to retain the post of company secretary. Public companies will • A reduction in the notice period for all meetings continue to be required to have an appropriately to 14 days. qualified company secretary. Public companies are still required to hold an annual general meeting and must do so within seven Auditors and Accounts months after the end of the financial year. This period will be shortened to six months following In provisions already in effect, private compa- a transitional period. A failure to hold a meeting nies will no longer be required to lay their annual within the specified period is an offence.

The Corporate Governance Advisor 30 January/February 2008 Changes for both public and private compa- association (which govern the internal management nies include giving greater rights to proxy holders of a company). For companies formed after the rel- (including the right to speak at all meetings and to evant provisions come into force, the memorandum vote on a show of hands) and the introduction of of association will be a historical document only, a procedure allowing shareholders of companies recording the membership of the company on its listed on a recognised stock exchange (including incorporation. the New York Stock Exchange and NASDAQ) to demand an independent report on the result of any More importantly, a company’s objects will be vote taken by poll (as opposed to a vote taken by a unrestricted, unless any restrictions on a company’s show of hands) at a general meeting. objects are specifically set out in the company’s articles. For an existing company, its objects will continue to be restricted by what is contained in its Electronic Communications memorandum. As is the case under the current law, those restrictions may be altered by a resolution of In an effort to help companies to lower costs, shareholders. provisions have been implemented which allow companies to make greater use of electronic media in communications with shareholders, particularly Inspection of the Shareholder Register allowing the use of websites to disseminate information. A company may take advantage of the Until recently, any person could inspect and new regime if shareholder consent to this method demand a copy of the register of shareholders of a has been obtained, either by resolution or by a UK company. Since October 1, 2007, that right has provision in the company’s articles of associa- been curtailed by the introduction of an obligation tion. Individual shareholders will be able to “opt on the part of the person requesting access to give out” of such communications (rather than “opt details of his identity (and that of any person to in,” which was the previous position). It will still whom he intends to disclose the information) and be necessary for a communication to be sent to the purpose for which the information is to be used. shareholders notifying them of the availability of The company then has five working days in which the information, but it is hoped that the propor- to comply with the request or to apply to the court. tion of hard copy mailings will be significantly The court will then determine whether the stated reduced. Considerable savings are likely to be purpose is a “proper purpose” and may order the made by companies, particularly those with a large company not to comply with the request. The court shareholder base. can also, if appropriate, require the person making the request to pay the costs of the company’s application to court. Information Rights

The use of nominee companies to hold interests Shares in shares is widespread. Legislation until now has not fully catered for this and beneficial owners have Under provisions not yet in force, companies had few direct rights to obtain important informa- will no longer have “authorized share capital”, tion from the company. Changes in the Act are however, shares will be required to have a nomi- likely to encourage greater information flow to ben- nal value. The articles of association may include eficial holders of shares in listed companies. These provisions which limit the number of shares which provisions came into force on October 1, 2007. may be issued.

Directors will be free to issue shares in private Constitution companies provided that there is only one class of shares. Under the current law, the directors must The constitutional documents of a UK company be authorized, either generally or specifically, to consist of a memorandum of association (which issue shares. However, rules which limit the issue sets out the objects of a company) and its articles of of shares for cash without first offering them to

Volume 16, Number 1 31 The Corporate Governance Advisor existing shareholders will be retained. As under the of the target—is followed. Under provisions not yet current law, it will be possible to remove these limits in force, this prohibition will be abolished so far as by a resolution of shareholders. it applies to private companies.

Financial Assistance Conclusion

The prohibition on financial assistance prevents The Act will have an effect on most areas of com- a UK company from giving financial assistance pany law and—in line with the UK Government’s directly or indirectly for the purpose of an acquisi- aim to “think small first”—the reforms are likely to tion of its shares. For example, a target may not simplify the administration of private companies, assist its acquirer by securing the acquirer’s borrow- although in many instances those companies will ings over the target’s assets, unless a statutory pro- need to make changes to their constitutional docu- cedure—designed to ensure the continued solvency ments to take full advantage of the reforms.

The Corporate Governance Advisor 32 January/February 2008