The largest chunk yet of the 1,300-piece jigsaw that is the Companies Act 2006 is set for completion in just under a month’s time. Well over 200 sections are to be pieced together with effect from 1 October, thanks to the third commencement order made on 25 July.
The most prominent feature in the new environment will, without doubt, be the first-ever statutory code on directors’ duties, here at last (well, the first instalment anyway). It will be accompanied by the brand new rules on so-called derivative claims (broadly speaking, where shareholders pursue a director in the company’s name following his or her breach of duty or negligence) and on ratification (where shareholders effectively authorise misconduct, as it were, ‘after the event’). But there’s more. From 1 October, if you are a director of a pension scheme trustee, you may be able to secure a new breed of indemnity in your favour. What else? How does a non-shareholder come to enjoy a shareholder’s rights? Directors’ loans are being decriminalised. AGMs will never be the same!
The Companies Act 2006 (the 2006 Act) is one of the largest statutes in history. True to form, the progressive (i.e. piecemeal) way in which it is being implemented is giving rise to ever more complex commencement orders. The new order alone amounts to over 50 pages of small print, including many fiddly transitional and consequential provisions. That is on top of the new law itself, not to mention the old law which is being repealed (another 100 sections or so). The third order joins the first commencement order under the 2006 Act made on 20 December 2006 (see our briefing note The Companies Act 2006: Directors’ duties (and first commencement order)) and the second made on 29 March 2007 (see our briefing note The Companies Act 2006: What’s new (from 6 April)?).
The purpose of this briefing note is to summarise the most important of the 1 October changes. Fuller details are to be found in our range of Companies Act 2006 briefing notes (the one you are reading brings the total this year to thirteen), to which we include references as appropriate. Do not fall into the trap however of assuming that everything covered in those briefing notes is coming into force - just the provisions highlighted below.
For a light introduction to the 2006 Act, see our two-page briefing note Companies Act 2006: Introduction and background.
Directors’ general duties
From 1 October there will, for the first time, be a statutory code to which directors must turn when considering their ‘general’ duties. For the moment the government has decided to bring only part of the code into effect (new sections 170-174 and 178-181). This first tranche includes provisions which oblige directors:
- to act in accordance with their company’s memorandum and articles of association, and to exercise their powers as directors only for the purposes for which those powers were conferred;
- to act in the way they consider, in good faith, would be most likely to promote their company’s success for the benefit of shareholders as a whole. In doing so, directors must have regard to at least the following six factors:
(a) the likely consequences of their decisions in the long term;
(b) the interests of their company's employees - echoing section 309 of the Companies Act 1985 (the 1985 Act), which is being repealed;
(c) the need to foster the company’s business relationships with suppliers, customers and others;
(d) the impact of their company’s operations on the community and the environment;
(e) the desirability of maintaining a corporate reputation for high standards of business conduct; and
(f) the need to act fairly as between shareholders;
- to exercise independent judgment; and
- to exercise reasonable care, skill and diligence.
Introduction of the remainder of the code has been deferred for a year. The provisions which will, as a matter of statute, oblige directors:
- to avoid conflicts of interest;
- to turn down certain benefits which they may be offered by third parties; and
- to declare their interests in proposed transactions and arrangements with their company
are scheduled to come into force on 1 October 2008. In the meantime, existing rules continue to bite. For more detail on the new code, and the downside should you breach your duties as a director, see our briefing note The Companies Act 2006: Directors’ duties (and first commencement order).
The re-jigged rules on so-called derivative claims (new sections 260-269) also come into force on 1 October. These put onto a statutory footing an existing procedure under which shareholders may, with the court’s consent, effectively force a company (which is not already doing so) to pursue a director following his or her breach of duty or negligence. (It is not necessary that the director profited personally from what went on.) Transitional arrangements apply in respect of claims already under way, as well as where the conduct complained of occurred before 1 October. See our briefing note Companies Act 2006: Directors and secretaries for more.
For the reasons we gave in our briefing note Companies Act 2006: Business as usual?, it appears unlikely that we will see an upsurge in claims against directors in the long run as a result of these changes. That is the government’s prediction too. To quote Lord Goldsmith (6 February 2006), “it is quite rare for companies to sue their directors for breach of duty. That may well continue to be the position”.
The new rule on shareholder ratification of directors’ misconduct, where ratifiable, also arrives on 1 October (section 239). This displaces the existing rules, at least insofar as the conduct occurs on or after that date, and it makes one significant change. Where shareholders resolve to ratify, say, Mr X’s conduct (let’s say it amounted to a breach of duty on his part or he was negligent), votes attaching to any shares held by Mr X or persons connected with him (basically certain family members, partners, related companies and firms, and trustees of related trusts) may not be counted towards the 50 per cent+ vote needed to let him off the hook.
Transactions between directors and their companies (such as might require shareholder approval)
Chapter 4 of Part 10 of the 2006 Act comes into force on 1 October, bringing 39 sections in a row into force. In large part these re-state provisions in Part X of the 1985 Act headed ‘Enforcement of fair dealing by directors’. That neatly describes what we are concerned with here - transactions between companies and their directors which are so ‘incestuous’ that the law demands they be made conditional on shareholder approval.
One big change is that loans to directors, though they may need to be approved by shareholders, will no longer attract criminal penalties under company law. Among the other changes of note are these:
Directors’ long-term employment contracts
The most visible change here is that shareholder approval will be needed for directors’ employment contracts made on or after 1 October which have a guaranteed term in excess of two years (not, as currently, five). Contrast the best practice provisions of the Combined Code on Corporate Governance which require that contract periods be set at one year or less.
Substantial property transactions
The minimum value of that which will be regarded as a ‘substantial’ non-cash asset (such that its sale to, or purchase from, a director or his or her connected persons requires shareholder approval) is being raised from £2,000 to £5,000.
Loans, quasi-loans and credit transactions
Arrivederci, by and large, to sections 330-344 of the 1985 Act. The current prohibitions, backed up by criminal penalties, are being replaced with a need for shareholder approval.
Payments for loss of office or employment, or for retirement
The corresponding provisions in the 1985 Act (sections 312-316) are being re-stated and, in respect of loss of office etc on or after 1 October, extended. The new regime will catch payments to directors (and to their connected persons) in respect of loss not just of office as director but of any office and even retirement from any employment in connection with the management of a company’s affairs. All will generally require shareholder approval.
For more detail, see our briefing note Companies Act 2006: Directors and secretaries.
The law which permits companies, up to a point, to indemnify directors against the consequences of their breach of duty or negligence, extended as recently as 2005, is being re-stated. Subject to some transitional provisions, it’s farewell to sections 309A-C of the 1985 Act and hallo to new sections 232-238.
A new arrival however is a provision (section 235) which expressly legitimises - but does not require - special indemnities in favour of directors of pension scheme trustees. More specifically, a corporate trustee will, from 1 October, be expressly permitted to grant indemnities in its directors’ favour against any liability which they may incur in connection with its activities as trustee of an occupational pension scheme. As with other forms of permitted indemnity, these ‘qualifying pension scheme indemnity provisions’ may not extend to criminal fines or regulatory penalties, and they must be disclosed in the indemnifying company’s accounts and reports and be made available for inspection.
Officers in default
An officer in default (OID) is, even under existing law, exposed to a fine or other penalty where his or her company contravenes a relevant provision of the 1985 Act and the OID concerned knowingly and wilfully authorised or permitted the contravention. As the new Act is progressively implemented however, a new definition of OID arrives to expose not merely a director who authorises or permits (or participates in) a given contravention but also every director who fails to take all reasonable steps to prevent it. Directors, beware.
Disclosure of directors’ service contracts
Sayonara, for most purposes, to section 318 of the 1985 Act. The basic principle (that directors’ service contracts be made available for inspection) is being retained of course and even expanded a little (see new sections 227-230). Subject to transitional arrangements, the principle will from 1 October:
- apply to contracts for services (and to non-executive directors’ letters of appointment) just as much as it applies to executive directors’ contracts of service;
- require all such contracts to be retained and made available for inspection for at least a year after they expire; and
- continue to expose ‘officers in default’ (newly-defined) to the risk of criminal penalty - but will no longer so expose the company.
Two historic carve-outs fall away on 1 October, namely those which have up to this point excluded from the disclosure regime (a) contracts requiring a director to work wholly or mainly outside the UK and (b) contracts with fewer than 12 months to run. These contracts too will need to be made available for inspection.
Sections 247-259 of the 2006 Act spring into being on 1 October under the uninspiring chapter heading, ‘Supplementary Provisions’. There is much re-statement here, but this is the part of the new Act where you will find:
- the requirement to keep minutes of directors’ meetings held on or after 1 October, for at least 10 years. Au revoir to the requirement to keep minutes of managers’ meetings;
- re-stated definitions of ‘director’ and ‘shadow director’ (adios section 741 of the 1985 Act); and
- the definition of what it means (legally) to be ‘connected with’ another human being, and what is meant by a director being ‘connected with’ or ‘controlling’ a body corporate (hasta la vista old section 346 for virtually all purposes).
A number of provisions highlighted in our briefing note Companies Act 2006: Share capital and members’ rights are brought into law on 1 October, including:
- section 145, which will underpin a shareholder’s right under a company’s articles to nominate another person to enjoy or exercise his or her rights as shareholder (a trustee might nominate a beneficiary for example). Only a shareholder may enforce shareholders’ rights however, and only it may transfer the shares; and
- sections 116-119, relating to the right to inspect and request copies of the shareholder register (nb. transitional provisions apply). The first limb of this right is, for the time being anyway, subject to a company’s power to close the register (a power which is slated to be done away with at a later date).
Also included are the brand new criminal offences which will, from 1 October, be committed by those who, in the process of exercising this right, knowingly or recklessly make materially misleading, false or deceptive statements, or who go on to disclose information from the register to those whom they know or have reason to suspect may use it for an improper purpose.
The unfair prejudice provisions of the 1985 Act are being replaced (so long old sections 459-461) by new sections 994-999. These provisions are hugely important of course, providing a remedy to shareholders where a company’s affairs are being conducted in a manner which is unfairly prejudicial to their interests. The existing law is re-stated.
Shareholders’ meetings and resolutions
A slew of provisions previewed in our briefing note Companies Act 2006: Members’ meetings and resolutions arrives on 1 October, including those relating to:
- the different types of shareholder resolution (ordinary and special - extraordinary resolutions are being banished, unless mandated by a company’s memorandum, articles or contracts);
- new rules for shareholder meetings convened not by the incumbent directors but by requisitioning shareholders (see new sections 301-306);
- the notice period for shareholder meetings (14 days in the case of private companies, unless otherwise specified in their articles) and new rules governing proxies (the 48-hour deadline for proxy appointments will no longer include non-working days); and
- the requirement to keep records of shareholder meetings held and resolutions passed on or after 1 October (sections 355-359), the main change being that a ten-year retention period is specified.
The offence of fraudulent trading in section 458 of the 1985 Act - not to be confused with the Insolvency Act 1986 offence of the same name - becomes section 993 of the 2006 Act, with one change. The maximum prison sentence for knowingly carrying on business with intent to defraud creditors, or for that matter with any fraudulent purpose - whether or not the company concerned is being wound up - rises from seven to ten years.
One part of the 2006 Act (Part 32) which may be said to be utterly new is that which alters (but does not replace) the existing company investigations regime, under which DTI (now BERR) inspectors may investigate companies and their affairs, seizing books and papers and taking a broad range of enforcement activity (new sections 1035-9 and 1124, and Schedule 3). Suffice it to say that the state’s powers are being reinforced.
Control of political donations and expenditure
The law which came into force in 2001 for the purpose of controlling ‘political donations’ and ‘EU political expenditure’ is being re-stated and amended (new sections 362-379). As currently, the basic principle is that companies must not undertake these activities without prior shareholder approval. Were they to do so, each ‘director in default’ (specially and widely defined for this purpose) would be personally liable, not least to make good the amount of the unauthorised donations or expenditure. In the case of subsidiaries, holding company approval is also required.
Companies that contemplate these sorts of expenditure - or fear they might break the rules (given the breadth of the definitions, and the sanction) - are well-advised to seek prior approval from shareholders. Some companies have taken to proposing appropriately-worded ‘precautionary’ resolutions at annual general meetings (AGMs) in case they do something during the year which might offend. Among the amendments from 1 October are provisions:
- limiting holding company approval, usually, to that of the ultimate holding company;
- permitting a holding company to seek authorisation just once, in respect of both its activities and those of its subsidiaries; and
- exempting donations to trade unions.
Transitional provisions apply in relation to pre-1 October commitments, and the introduction of that part of the 2006 Act which will extend the regime to independent election candidates is deferred for another year.
Tailored rules for different categories of company
The 2006 Act has rightly been credited for recognising that different sorts of company should be regulated in different (i.e. more appropriate) ways. One size does not fit all. Among the 1 October changes are those affecting only the following categories of company: private companies; public companies; companies admitted to trading on a regulated market (including fully listed companies but excluding those on AIM); and quoted companies (only those companies the equity shares of which are fully listed, officially listed in another European Economic Area state, or admitted on either the New York Stock Exchange or Nasdaq).
More private company deregulation comes our way on 1 October.
For a start the new rules on written resolutions (new sections 288- 300) come into force in relation to resolutions sent or submitted to a private company’s shareholders on or after that date. It is thought that private company shareholder meetings will become rare events, but they will still be needed to remove an auditor midterm and to dismiss a director. Unanimity will no longer be a condition of written resolutions (the required majority will depend on the subject matter of the resolution). For more detail, see our briefing note Companies Act 2006: Members’ meetings and resolutions.
- Auditors of a private company will, in relation to appointments for financial years beginning on or after 1 October, thereafter generally be deemed re-appointed unless replaced (new sections 485-488).
- Save in the most exceptional circumstances, a private company will no longer be required to hold AGMs (auf wiedersehen old section 366), subject always to its memorandum and articles of association which may still mandate them.
- It follows that private companies are - in respect of annual accounts and reports for financial years ending on or after 1 October - no longer required to lay them before shareholders at general meetings (see ya old section 241, at least so far as private companies are concerned). The requirement reverts to sending the accounts etc to those entitled to receive them no later than the earlier of (a) the date on which they are actually delivered to the Registrar of Companies and (b) the statutory deadline for delivery (10 months after the year-end, set to be reduced just over a year from now to nine months after the year-end).
For more detail, see our briefing notes Companies Act 2006: Accounts, auditors and websites and Companies Act 2006: Business as usual?
The new law governing public companies’ AGMs (sections 336- 340) similarly comes into force on 1 October. For more detail, see our briefing note Companies Act 2006: Accounts, auditors and websites.
Note that, in so far as section 336 imposes a fresh deadline by which a public company’s AGM must be held (generally within six months of the accounting reference date), it will apply only in relation to meetings after the first AGM held post-30 September 2007. Moreover, pending more legislative change expected next April, the third commencement order transitionally imposes a seven-month rule, which mirrors the period currently allowed for laying accounts and reports before a public company’s shareholders.
Companies traded on a regulated market (not including AIM)
Bonjour, on 1 October, to the so-called information rights, which will entitle shareholders in traded companies who hold their shares on behalf of ‘indirect investors’ to nominate those investors to receive company communications (including the annual accounts and reports). A company is not strictly required to act on nominations before 1 January 2008. See sections 146-151 of the new Act.
Quoted (not including AIM) companies
Also new from 1 October are these additional impositions on quoted companies:
- the need to publish poll results online (new section 341);
- new powers for shareholders (100 in number or representing five per cent or more of the voting rights) to require a report on a poll to be procured from an independent assessor, but only where the poll is to be taken at a meeting of which notice was given on or after 1 October (sections 342-351); and
- a requirement to include information within the business review, in directors’ reports for financial years beginning on or after 1 October, about:
(a) the main trends and factors likely to have a future effect on the quoted company’s business;
(b) environmental matters, employees and social and community issues (including information on any policies in each area, and their effectiveness); and
(c) those “with whom the company has contractual or other arrangements which are essential to [its] business” (section 417).
There are significant exceptions to this last requirement, and in any event details need only be disclosed “to the extent necessary for an understanding of the development, performance or position of the [reporting] company’s business”.