Remarks on the launching of Company Directors and Corporate Social Responsibility: UK and Australian Perspectives (edited by R. P. Austin)

It is a pleasure for those of us who were involved in the August conference last year to be able to round off that endeavour by publishing the edited transcript of the proceedings. I am very grateful to the Law Society for co-sponsoring the Conference, and especially for all the hard work of Robyn Davies in attending to the administration. I am also very grateful to Associate Professor Barbara McDonald for making the publication possible, and to the speakers for their insightful contributions.

Since our conference, the world has moved on. In November 2006 the UK Bill that we discussed was enacted. At home, in December 2006 the Corporations and Markets Advisory Committee (CAMAC) published its report on The Social Responsibility of Corporations, rejecting the idea that the UK legislation should be followed in Australia, in this area. I would like to take the opportunity of the launching of the conference proceedings to make a few remarks on that issue. I am doing so, to the extent that it is possible, in a non-judicial capacity, as a company lawyer with a long-term interest in law reform. Nothing that I say should be interpreted as having application to any particular case.

The question whether Australian company directors may or must take into account the interests of stakeholders other than their company's shareholders, such as creditors or employees or the environment, has been a vexed one for many years. Except as regards the interests of creditors, there is no authoritative pronouncement at the appellate level. We still rely, inter alia, on 19th-century cases that talk quaintly about such burning topics as whether the directors can spend the company's money giving their shareholders cakes and ale.

If the directors of a solvent Australian company have before them a proposal that will generate immediate profits for the shareholders, while being likely or having the potential to damage present or future interests of employees or tort claimants, or to produce some devastating (but not illegal) environmental impact, there is real doubt about where their duty lies. It is at least arguable that they are obliged to opt for short-term profit - I say "at least arguable" in order to make the point that there is a significant risk that their legal advisers will accept that argument, even if (with the benefit of hindsight) it later turns out to be wrong. Conversely, it is also arguable that the directors' duty is to take a longer-term view of shareholder interests and to assess the prospect that the company might be damaged, and hence the value of the shareholders' investment might be diminished, when the consequences of its decision upon other stakeholders become evident.

These doubts are compounded by an ambiguity in the case law, as to whether the duty is "subjective", or "objective", or subjective but circumscribed by objective criteria. I believe the test is essentially a subjective one, that is, the question is whether the directors have subjectively taken into account and acted upon their perception of where the interests of the company lie, rather than whether their decision truly does promote the company's interests. But when a court comes to review the directors' decision, it is likely to disbelieve the directors' protestations that they have acted in what they considered to be the company's interests if, in the court's opinion, no reasonable person acting in the company's interests could have made the decision that the directors made.

That is my view of it, but there is considerable doubt about the matter. The doubt arises partly because of the way the duty has been formulated in some of the case law on the old statutory requirement to act "honestly", and partly because of some textbook pronouncements. And in his second reading speech the then Minister, Senator Conroy, said (wrongly, I think) that the purpose of the introduction of the present s 181 was to introduce an objective test.

The muddy state of the law means that outcomes in the boardroom, guided by legal advice, will be uncertain, and the quality of corporate governance may suffer. The risk is that directors will regard pursuing short-term profit as the easiest and safest solution, especially under the influence of hedge funds (and institutional investors influenced by the hedge-fund view of the world), and analysts, and perhaps even credit rating agencies. It is fertile ground for Professor Coffee's gatekeeper theory. If that risk is substantiated, directors will need some protection from the pressure of short-termism.

Over the years, the question has been referred to various law reform bodies, who have arrived at a split decision. In 1989 the Senate Standing Committee on Legal and Constitutional Affairs recommended an amendment to make it clear that the interests of the company's employees could be taken into account by directors. The intention was to protect directors from claims of breach of duty for actions taken by the board in the interests of employees. New Zealand was persuaded to make such an amendment, and so was the United Kingdom, in the 1985 Act. More recently, the interests of other non-shareholder stakeholders have come to the fore, and demands for law reform have been made, for example, by environmental groups.

These reform ideas do not put other stakeholders on the same level as the company's shareholders. That is, they do not require directors to act in the interests of anyone other than the shareholders; they do not adopt "pluralism", according to which those who manage corporations have a duty to serve the interests of many different groups of stakeholders. Instead, they are driven by what the UK Department of Trade Working Group has called "enlightened self-interest". The same approach is reflected, very strongly, in the new UK provision that was the subject of our conference, s 172 of the Companies Act 2006.

Section 172 makes it clear that the director's duty is subjective, to act in the way that he or she considers, in good faith, would be most likely to promote the success of the company for the benefit of its members. Moreover, the formulation makes it clear that it is the success of the company for the benefit of the members, rather than the simple generation of immediate profit to be distributed to the members, that is the objective. That is confirmed by the requirement for the directors to have regard to the likely consequences of any decision in the long-term. They must also have regard to the interests of others mentioned in the section, including employees, creditors and the community, amongst other matters. The overall objective is very clearly to promote the company's success for the benefit of the members. The provision is intended to protect the directors from the demands of short-termism.

The response of Australian law reformers in recent times has been negative. In June 2006 the Parliamentary Joint Committee on Corporations and Financial Services elected not to recommend statutory amendments to the directors' duty, but their report does not focus specifically on the justification for legislation that has been accepted in the United Kingdom.

CAMAC delivered its report, The Social Responsibility of Corporations, in December 2006. In the Committee's view:

• the established formulation of directors' duties allows directors sufficient flexibility to take relevant interests and broader community considerations into account;
• changes of the kind under consideration would not provide meaningful clarification to directors, while risking the obscuring of their accountability;
• concerns about the environmental and social impact of business behaviour are better addressed, if the market is judged unable to give a satisfactory response, by legislation specifically directed to the problem area.

• the view that Australian law currently permits, or perhaps requires, directors to do what the UK Act legislates; and
• the view that to legislate along the UK lines would introduce uncertainty into Australian law.