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Future corporate governance reforms to target irresponsible directors

Out-Law News | 22 Mar 2018 | 4:51 pm | 3 min. read

The UK government is consulting on further reforms to the corporate governance and corporate insolvency frameworks, designed to target "irresponsible" behaviour by companies and their directors when a business is in or is approaching financial difficulty.

It seeks views the specific proposals to better hold to account directors who may currently avoid the consequences of their responsibility for an insolvency, or who 'asset strip' or sell struggling companies to the detriment of employees and creditors. These measures could include the power to 'claw back' money for creditors, or to disqualify directors who recklessly sell a company or subsidiary or knowing it would fail.

The consultation, which closes on 11 June 2018, also asks in a later section whether any related reforms may be needed to the pre-insolvency corporate governance framework, including possible reforms to the legal and technical framework within which decisions are made about paying out dividends. The intention is to make the process more transparent, without interfering with directors' judgement about what distributions to make from company profits and when.

The pre-insolvency section identifies some areas in which such reforms might be needed, but makes few specific proposals, in contrast to the section on investigating and regulating insolvencies and the directors involved in them.

The proposed changes were prompted by a "small number" of recent business failures, and build on the government's recent programme of corporate governance reform, said business secretary Greg Clark.

"Britain has a good reputation internationally for being a dependable place to do business, based on required high standards," he said. "This framework has been regularly upgraded and in the light of some recent corporate failures I believe the lessons should be learned and applied."

"These reforms will give the regulatory authorities much stronger powers to come down hard on abuse and to make irresponsible directors bear the consequences of their actions," he said.

The Insolvency Service already has the power to investigate the conduct of companies and their directors, and to disqualify directors for up to 15 years if their conduct is found to make them unfit to be involved in the management of a company. The government is now proposing to extend these powers so that the Insolvency Service can take action against former directors of companies that have already been dissolved, without the need to apply to court for the company to be restored.

The consultation is proposing that the Insolvency Service be given the power to require information to inform any investigations into former directors. Should a former director be found to have acted in breach of legal obligations, the Insolvency Service would then have the power to impose disqualification orders or fines, or to seek prosecution where there is evidence of criminal conduct.

The government also intends to give insolvency practitioners the power to apply to court to reverse a transaction, or a series of transactions, which they consider to have "unfairly removed value" from that company in the run-up to an insolvency process. It is seeking views on how best to do this in order to "prevent easy avoidance and allow the insolvency officeholder to address such schemes in whatever form they take", without discouraging legitimate new investment into struggling companies.

"This new suggested power is interesting, but it remains to be seen how that might translate into effective legislation," said insolvency law expert Nick Pike of Pinsent Masons, the law firm behind Out-Law.com.

"There are already plenty of weapons in the armoury for insolvency practitioners to attack reckless directors. The reason why more cases are not taken tends to be because of a lack of funding to pursue them, notwithstanding the availability of litigation funding in the commercial market; plus problems in satisfying the strict tests set out in the legislation and courts," he said.

The consultation also considers the role to be played by shareholders, particularly large institutional shareholders, in spotting potential large corporate failures at an early stage. It highlights recent initiatives in this area by the UK's investment community, including the setting up of the 'Investor Forum' to engage collectively with individual companies and new Investment Association guidance on long-term reporting. However, it questions whether more could be done, perhaps through changes to the UK Stewardship Code.

"The consultation devotes almost half of the substantive pages to raise questions about five aspects of pre-insolvency corporate governance and asks whether more regulation is needed to bolster law and practice," said corporate governance expert Martin Webster of Pinsent Masons. "It does this by reference to a fictional example which is clearly derived from recent high-profile insolvencies."

"Whilst the consultation does point to particularly company law, business practice and corporate governance issues which, in the fictional example, may have been unsatisfactorily addressed - including in respect of investor engagement and oversight and the framework for paying dividends - it does not provide any substantive proposals as to how the situation may have been improved or the problems may have been averted and simply asks for views. That approach may result in more responses from stakeholders than considered submissions from companies and advisers offering suggestions on specific proposals. However, companies and advisers should ask themselves whether, in a time of heightened public concern, there is a need to respond to bring balance to the debate," he said.