Written submission to the Corporate Governance Inquiry conducted by the Business,

Innovation and Skills Committee of the House of Commons

This submission is made by Ryan J Turner, Faculty of Law, University of Cambridge (Trinity
College).1
PART I: INTRODUCTION
Scope of Submission
1

This submission is directed to item eight of the terms of reference within the directors
duties section, being the question:
Should Government regulate or rely on guidance and professional bodies to
ensure that Directors fulfil their duties effectively?

This term of reference has two aspects:

2.1

the content of directors duties under the Companies Act 2006 (UK)
(Companies Act), which is implied in any question about the efficacy of those
duties; and

2.2

enforcement of directors compliance with their duties under the Companies

Act.

This submission only addresses the latter question of enforcement. The content of
directors duties and the enforceability of those duties as drafted particularly the
difficulty of s 172 of the Companies Act are not addressed in this submission.

Recommendations
4

The author responds directly to the question posed by item eight of the terms of
reference:
Government should regulate directors duties. There is no evidence that
professional bodies will strengthen compliance by directors and any
outsourcing of the regulatory function of government to professional bodies
should be firmly resisted. However, the power of Government to enforce
directors duties (and the content of those duties) must be enhanced in order to
address wrongdoing by directors.

The author makes the following specific recommendations:

5.1

If the Government is committed to controlling the power of directors in the

interests of society and shareholders a properly funded and resourced regulator
must be empowered to enforce the statutory duties of directors alongside the
existing model of private enforcement by, or on behalf of, the company.

This submission is made in my personal capacity and does not reflect the views of any person, organisation or
institution with which I am associated.

Page 1 of 8

5.2

The legal framework for the public enforcement of directors duties must
combine pecuniary penalties, compensation orders and disqualification orders
in a similar way to the Australian regime under the Corporations Act 2001 (Cth)
(Corporations Act). Although the latter two remedies already exist under the
Company Directors Disqualification Act 1986 (UK) (CDDA 1986), the power
of the Secretary of State to apply for such remedies is limited and ought to be
expanded as part of a comprehensive public enforcement framework.

Structure of Submission
6

The substantive section of this submission is made up of two primary parts: Part II and
Part III. Part II evaluates the private and quasi-public enforcement models for directors
duties under English law in two parts:
6.1

Part II.A addresses private enforcement by shareholders; and

6.2

Part II.B addresses the existing limited public enforcement model, which I term
the quasi-public enforcement model.

Part III discusses the public regulatory model under Australian law as a model for the
expansion of the existing public enforcement model in English law.

PART II: THE CURRENT ENFORCEMENT MODEL UNDER ENGLISH LAW

A

The Private Enforcement Model

The Companies Act adopts a private regulatory model for the enforcement of directors
duties. Under s 170(1) of the Companies Act the duties of directors are owed to the
company. As a result, the duties of directors are enforceable only by:

8.1

the company;

8.2

a shareholder on behalf of the company; and

8.3

an insolvency practitioner on behalf of the company if the company is subject

to a formal insolvency procedure.2

If the company is unwilling to pursue a breach of duty against a director or directors

who have engaged in wrongdoing (as is likely to be the case where the director or
directors remain in control of the company), enforcement of a breach of duty by a
solvent company can only occur at the initiative of a shareholder. However,
enforcement by a shareholder by way of either:
9.1

a statutory derivative action under s 260ff of the Companies Act; or

9.2

as a remedy for unfair prejudice under s 994 of the Companies Act,

Insolvency Act 1986 (UK) s 212. Other remedies against a director may also lie under ss 213, 214, 238, 239, 423
and other provisions of the Insolvency Act 1986 (UK), although such provisions are not concerned with a directors
breach of duty.

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suffers from key weaknesses that limit private enforcement as an effective regulatory
model.
10

In particular, shareholder litigation faces what is termed the collective action

problem.3 This problem has two facets in companies with widely-dispersed
shareholders:
10.1

the benefits accruing to each individual shareholder may not justify the cost and
burden of that shareholder taking action as the benefit of a derivative action
accrues to the company with each shareholder benefiting indirectly
proportionate to their shareholding. Indeed, there is the possibility for that
shareholder to free ride on another shareholders action and benefit if another
shareholder takes action, in turn reducing the economic incentive for a
shareholder to act; and

10.2

coordination among a widely dispersed shareholding for example, to remove

a director by resolution or to fund the application for a derivative action may
be difficult and costly.

11

A shareholder derivative action in a company whose securities are quoted on a

securities exchange is even less likely as the shareholder has a self-help remedy
available to him, her or it, namely the sale of his, her or its shares. The sale of a
shareholders shares is, however, an unsatisfactory outcome as the wrongful conduct
may go un-remedied and un-punished.

12

For these and other reasons, Professor Keay writes of the statutory derivative procedure
that rarely will shareholders seek to litigate a case under the scheme rather than doing
nothing or exiting the company. 4 So too, Professor Hannigan comments that:
[p]rivate enforcement requiring civil litigation is necessarily erratic and uncertain and
depends on the accidents of disputes and the perseverance of claimants.5 A regime that
hinders bona fide claims to hold directors accountable is far from ideal.

13

It is difficult to assess empirically whether the existing private enforcement model is

effective to deter and remedy wrongdoing by directors. Accordingly, no empirical
claim can be made either in support of or against the existing regime. However, there
is a growing chorus amongst company law academics (such as those described above)
that private enforcement should be supplemented by public enforcement by a properly
resourced and empowered regulator.

14

The model of public enforcement under the Corporations Act in Australia provides a
workable model able to be adapted and adopted into English law. This model is
discussed at paras 26-32 below.

See Hans C Hirt, The companys decision to litigate against its directors: Legal strategies to deal with the board
of directors conflict of interest (2005) Journal of Business Law 159, 169-70.
4
Andrew Keay, Assessing and rethinking the statutory scheme for derivative actions under the Companies Act
2006 (2016) 16(1) Journal of Corporate Law Studies 39, 68.
5
Brenda Hannigan, Board Failures in the Financial Crisis: Tinkering with codes and the need for wider corporate
governance reforms: Part 2 (2012) Company Lawyer 35, 40.

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The Quasi-Public Model of Enforcement

15

What I have termed the quasi-public model of enforcement is a public model of

enforcement of directors duties that occurs in relation to directors of insolvent
companies and, in very limited circumstances, solvent companies. The expression
quasi-public is used to indicate that the model is too limited to be effective. Indeed,
it has been roundly criticised by Professor Williams. 6

16

The quasi-public model has two aspects: disqualification and, as a consequence

disqualification, compensation orders/undertakings.

17

The Secretary of State may seek to disqualify a director, inter alia, for:
17.1

unfit conduct in the management of a company if the company has become

insolvent;7

17.2

persistent breaches of the companies legislation in relation to certain accounts

or documents required to be provided; 8 and

17.3

certain offences under the companies legislation. 9

18

The director of a solvent company may be disqualified under certain provisions of the
CDDA 1986, but the circumstances giving rise to disqualification of the director of a
solvent company are tightly circumscribed. Disqualification most often occurs under s
6 of the CDDA 1986; that is, in circumstances where a company has become insolvent.

19

Recently, the Small Business, Enterprise and Employment Act 2015 (UK) (SBEEA
2015) s 110 amended the CDDA 1986 to grant the Secretary of State power to apply
for a compensation order against, or accept a compensation undertaking from, a
disqualified director in connection with the conduct that resulted in his or her
disqualification. A compensation order is payable to the company or to the Secretary
of State for the benefit of some or all of the creditors of the company. 10

20

The power to seek a compensation order supplements the regime controlling the
conduct of directors within the zone of insolvency under the Insolvency Act 1986 (UK)
(IA 1986). However, the circumstances in which the Secretary of State may apply for
a compensation order are narrower than those in which ASIC may seek an equivalent
order under the Corporations Act. As recommended in para 5.2, the power to seek
disqualification of a director should be expanded to allow the Secretary of State to seek
disqualification as part of a broader public enforcement model in line with the
Australian legislation. That would not mean that every breach of directors duties would
result in disqualification, but that the court would have the power to make such an order
if it considered disqualification appropriate.

See paragraphs [21]-[26] below.

Company Directors Disqualification Act 1986 (UK) s 6(1).
8
Company Directors Disqualification Act 1986 (UK) s 3(1).
9
Company Directors Disqualification Act 1986 (UK) ss 2(1), 5(1).
10
Company Directors Disqualification Act 1986 (UK) s 15B(1).
7

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21

The disqualification regime and its extension has not been uncritically received, but
criticism of the regime ought to be contextualised appropriately. The criticism of
Professor Williams, in particular, while important, should not deter the committee from
accepting the need for reform or the value of a public enforcement regime.

22

Professor Williams has suggested on the basis of a financial cost-benefit review of the
director disqualification regime that:
disqualification manifestly fails to offer the public beneficial protection from abuse
of limited liability.11

23

In a subsequent article following the proposal of the reforms that were later enacted in
SBEEA 2015, Professor Williams commented om those reforms:
Whatever the impact on patterns of recovery, available evidence strongly indicates
that civil recovery against delinquent directors, and civil recovery against disqualified
directors in particular, are likely to be measures of limited usefulness.12 (emphasis
added)

24

Professor Williams scepticism about the efficacy of the measures enacted by SBEEA
2015 does not prejudice the potential value of a public regulatory model for the
enforcement of directors duties. This is because public enforcement of directors duties
may occur outside of company insolvency and in circumstances where the risk of
bankruptcy of the director(s) is lower. Accordingly, the face value of a remedy against
a director may be higher, particularly where the director is the beneficiary of D&O
liability insurance, and the general deterrent effect may be greater.

25

Two examples of enforcement proceedings in Australia against the directors of

companies that were, at the time of the breaches, solvent demonstrate this potential role
for a public regulatory model outside of the circumstances of insolvency:
25.1

James Hardie Industries Ltd was a public company listed on the Australian
Securities Exchange (ASX).13 The litigation concerned a misrepresentation in
an announcement to the ASX that a compensation fund for persons suffering
from asbestos-caused illnesses was fully funded. The making of the
misrepresentation amounted to a breach of the duty of care and diligence owed
by the directors under s 180(1) of the Corporations Act. The directors were
ordered to pay pecuniary penalties of between $20,000 and $30,000 each and
were disqualified for two or more years.

25.2

Storm Financial Limited was a financial advisory firm that collapsed during
the global financial crisis. 14 The business model of the company was held to
have contravened obligations imposed on financial advisers under s 945A of
the Corporations Act. On this basis, the directors were held to be in breach of

11

R Williams, Disqualifying Directors: A Remedy Worse than the Disease? (2007) 7(2) Journal of Corporate
Law Studies 213, 217.
12
R Williams, Civil Recovery from Delinquent Directors (2015) 15(2) Journal of Corporate Law Studies 311,
339.
13
Gillfillan v Australian Securities & Investments Commission [2012] NSWCA 370.
14
Australian Securities and Investments Commission v Cassimatis (No 8) [2016] FCA 1023.

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their duty of care and diligence under s 180(1) of the Corporations Act. The
penalty judgment is outstanding.
26

Professor Williams criticisms do, however, highlight the importance of coordinating

the different regimes and regulators in order to reduce the regulatory burden and cost
of regulation and strengthen the institutional expertise of the regulator. In particular:
26.1

any additional regulation must operate conjunctively with the existing director
disqualification regime under CDDA 1986, insolvency regime under IA 1986,
and other controls on director and corporate conduct found in the Bribery Act
2010 (UK) and other legislation; and

26.2

a centralised regulator ought to have oversight, investigatory and enforcement

powers sufficient to enforce statutory directors duties, disqualification and
other offences (such as bribery). Centralisation of functions is preferable to the
existing disaggregation of regulatory oversight among different regulators such
as the Insolvency Service and the Serious Fraud Office.

The Australian Public Regulatory Model

27

The Australian model allows both private enforcement of directors duties, akin to the
existing model in the United Kingdom, and public enforcement of directors statutory
duties.

28

The public regulator, the Australian Securities and Investments Commission (ASIC),15
may, inter alia, apply for a declaration that a director has breached his or her statutory
duty and a civil penalty.16 The civil penalty may be:
28.1

a pecuniary penalty payable to the Commonwealth of up to AU$200,000;17

28.2

a compensation order, which requires the person to compensate the corporation

for damage suffered as a result of the breach of duty; 18 and/or

28.3

a disqualification order. 19

29

This public regulatory model sits alongside the private regulatory model. As a result, a
company may face claims from both their company and ASIC, although it is unlikely
that shareholders would initiate a claim for breach of duty alongside a claim by the
regulator. Other shareholder claims such as a securities class action for nondisclosure are not uncommon.20

30

A public enforcement model is not a panacea for corporate wrongdoing or the

limitations of a private enforcement model. As a public regulator, ASICs resources are
necessarily limited. ASIC therefore focuses its enforcement action on high profile,

15

ASIC is a statutory body constituted by the Australian Securities and Investments Commission Act 2001 (Cth).
Corporations Act 2001 (Cth) ss 1317E(1) (declaration), 1317J(1) (power).
17
Corporations Act 2001 (Cth) s 1317G(1)
18
Corporations Act 2001 (Cth) s 1317H(1).
19
Corporations Act 2001 (Cth) s 206C.
20
See, eg, In re HIH Insurance Limited (In Liquidation) [2016] NSWSC 482.
16

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systemic or severe breaches of the law that bolster the general deterrent effect of the
law.21
31

32

This form of impact or strategic litigation by a public regulatory can go a long way
to improving the existing model of corporate regulation. In particular, a public
regulatory model can:
31.1

overcome some of the deficiencies of the existing enforcement model, including

the collective action problem;

31.2

create and foster norms of corporate conduct that match societys expectations
(such as those set out in the Financial Reporting Councils UK Corporate
Governance Code);

31.3

foster the confidence of creditors and shareholders in the integrity of the market
and disclosure by companies; and

31.4

strengthen the general deterrent function of corporate law by increasing the

incidence of enforcement.

The broader societal purposes served by a public enforcement model are commonly
recounted and affirmed by academic commentators in Australia. For example, du
Plessis et al record that:
David Knott, a former Chair of ASIC, was reported as saying that the orders against
the three HIH directors acted as a warning to company directors and highlighted the
serious consequences that could flow from the failure of good corporate governance.
Collier observed that it is important to note that all [the recent] enforcement action [by
ASIC] does more than target individuals who breached the law. It has an education and
market confidence impact. Or, as Farid Assaf puts it, the above matters [civil
proceeding against HIH and One.Tel directors] sent out a strong signal to directors of
public companies comply with your statutory obligations or else[!]. 22

33

The weaknesses of the existing private regulatory model and the benefits of a public
regulatory model have led commentators to repeatedly recommend that the
Government adopt a public enforcement model for directors duties. This case was most
recently and persuasively advanced by Keay and Welsh,23 but has been put forward by
numerous commentators for many years.

34

If the Committee considers that a public enforcement model might be appropriate, the
Committee should seek further submissions from, inter alios, ASIC and the
International Organisation of Securities Commissioners (IOSCO), as the Committee
considers appropriate.

PART IV: OTHER OBSERVATIONS

21

Jason Harris et al, Shareholder primacy revisited: Does the public interest have any role in statutory duties?
(2008) 26 Company & Securities Law Journal 355, 373.
22
Jean Jacques du Plessis et al, Principles of Contemporary Corporate Governance (3rd edn, 2015 CUP) 218-9.
23
Andrew Keay and Michelle Welsh, Enforcing Breaches of Directors Duties by a Public Body and Antipodean
Experiences (2015) 15(2) Journal of Corporate Law Studies 255. See also the authors cited by Keay and Welsh
at 256 nn 8, 257 nn 9.

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35

36

At the heart of the Committees terms of reference is the basal question: whose interests
should the corporation serve? The existence of the inquiry indicates that the
Committees answer appears to be, at least to some extent, the interests of society.
Although I welcome the Committees inquiry and the Prime Ministers public rhetoric
in favour of company law reform, the terms of reference are unduly narrow and do not
form part of a wider review of organisational law that includes partnerships, trusts and
other structures. This narrow focus hinders the ability of the Committee to consider
broader law reforms to address the issues and problems that have prompted this inquiry.
For example:
35.1

the question whether there should be worker representation on boards and/or

remuneration committees should be considered not in isolation but as part of a
broader inquiry of how the interests of workers might be better protected and
include an assessment of how Government might incentivise employee
ownership structures (e.g., through tax reform);

35.2

the questions relating to board diversity should include express consideration of

the Governments appointment policy in relation to partly- and wholly-owned
corporations. One might query why, for example, the majority-owned Royal
Bank of Scotland currently has an Executive Committee made up of two women
and nine men and a Board of three female non-executive directors and six male
non-executive directors.

Please do not hesitate to contact me if I can be of further assistance to the Committee.

Ryan J Turner, Trinity College, Cambridge CB2 1TQ, United Kingdom, email:
rjt77@cam.ac.uk
26 October 2016

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