New opportunity in the EU to clarify the duties of company directors for the long-term sustainability of businesses, society and the planet

25. 9. 2018
Frank Bold has published the paper entitled 'Redefining directors' duties in the EU to promote long-termism and sustainability', which springs from the fact that although it is universally agreed that directors’ obligations are to act in the interests of the company, there exists a lack of clarity over what these ‘interests’ are in practice or who they are owed to.

The European Commission has taken up the debate on the obligations of company directors and will be analysing if they should be clarified at an EU level. This commitment is included in their Action Plan on Sustainable Finance aimed at transforming Europe’s economy and financial system into a sustainable one. The Commission seeks to attenuate short-term pressure from capital markets on corporations that force directors to disregard opportunities and risks stemming from long-term sustainability considerations.

Directors are to act in the interest of the ‘company’ and his interest is in many Member States currently restricted or interpreted as the sole interest of shareholders” stated Maija Laurila, Head of the Company Law Unit at the DG Justice at an event co-organised by Frank Bold, Cass Business School and Mines ParisTech.

The event hosted by Heidi Hautala MEP, Vice-President of the European Parliament saw the presentation of Frank Bold’s latest report entitled 'Redefining directors' duties in the EU to promote long-termism and sustainability'. The paper outlines recommendations to clarify directors duties, integrate sustainability in these duties and recognise legally corporate governance arrangements that protect company’s social mission. The proposals included in this paper are supported by examples and analyses from EU Member States and other jurisdictions, and the questions that might need to be considered in order to apply these to an EU-wide context. The paper specifically considers recent legislative developments in France with the presentation of the ‘Loi Pacte’ which includes recommendations to reform the French Civil Code.

A brief summary of the paper and main conclusions are available below. You can download the full report here.

 

Summary:

The directors of a company are those responsible for implementing the company’s strategy, overseeing its operations, and accounting for its performance. The way that such duties are defined determines how the directors are accountable and who they are accountable to. The purpose of this paper is to explore ways to clarify and, where appropriate, enhance director duties and corporate governance by explicitly incorporating sustainability factors into those obligations and focusing directors’ attentions on the long-term.

The paper firstly considers the duty of directors to act in the interests of the company and explores more particularly, to whom these duties are owed to, who benefits from them and what the interests of the company are. It also includes an analysis on other duties which could be adopted to effectively promote the success of the company in the long-term, whilst minimising social and environmental impacts. Lastly, the paper outlines further reforms in company law that could be introduced in relation to the social purpose of the company in order to promote long-term sustainability and facilitate the efforts of sustainable investors.

Key conclusions:

  • It should be clarified by means of legislation or guidance that directors’ duties are owed to the company, as a legal entity, and has exclusive right to enforce them. In all European jurisdictions, directors’ duties are owed to the company, rather than to its shareholders or any other third parties. Guidance should make clear that the company’s activities impact a wide range of stakeholders (including shareholders) and societal interests (such as the environment) that need to be considered by directors from the perspective of company’s interests and purpose.
  • It should also be clarified that the primary interest of the company is to survive in the long-term, in order to achieve the purpose for which it was incorporated, taking into consideration the economic, social and environmental issues to which its activities give rise. Directors should give parity to all material stakeholders and issues that are important for the long term health of the company and its specific purpose and should not prioritize shareholder value over such considerations. Attempts to broaden the interests of the company to take account of interests beyond those of the shareholders have generally failed to provide sufficient clarity. Efforts to describe the drivers of long-term corporate success are more likely to be fruitful.
  • It is recommended for the law to more explicitly require directors to identify and mitigate all of the economic, social, and environmental factors that materially affect the long-term prospects of a company and the attainment of its specific social objectives. In practice, this analysis is often limited to short-term financial risks. This analysis and mitigation should be published in a suitable integrated reporting format. The legislation (and/or the legislative guidance) should specify salient material risks for key industries to ensure that an appropriate baseline has been established. Directors should be required, under the legislation, to identify additional material risks to the company, taking into account the specific nature of the company.
  • There should be a new duty for directors to act within the planetary boundaries and social foundations, supported by a requirement to carry out ongoing human rights and environmental due diligence in relation to a company’s operations (including its supply chains) and to develop a strategy to mitigate any such impacts. This is complementary to the above recommendation, which does not require directors to consider the impacts of the company on external resources if these impacts do not directly affect the longevity of the company or its unique social objectives. Legislation or guidance should define planetary boundaries and social foundations to the maximum extent possible, as well as the appropriate due diligence requirements, but directors should be legally obligated to more specifically develop this in the context of the company’s specific business model.  
  • We also recommend that a duty of the company (rather than the directors) be introduced, which requires the company to identify, prevent and mitigate human rights violations and significant environmental harm. There are many adverse environmental or social impacts that do not in themselves cause a company measurable financial damage. We recommend that as part of a larger company law reform project, a duty should be imposed on companies to identify, prevent, and mitigate human rights violations and significant environmental harm caused (or contributed to by other companies that it can control such as subsidiaries and business partners). This duty is to be owed by the company to the public, and particularly those who suffer such harm.
  • Companies can adopt a social purpose that either expressly takes precedence over their commercial purpose, or is to be balanced with that commercial purpose by the directors at their discretion. Given that companies in the majority of European jurisdictions are already free to do this, such new legislation may cause confusion, with companies potentially assuming that an explicit social purpose is exceptional, and that most commercial companies would not consider this. Therefore, we recommend that the European Commission instead affirms that there is nothing in company law that prevents companies from adopting a social purpose that takes precedence over, or is balanced with, a company’s commercial purpose.
  • We recommend to embed in law a social purpose “status” for mission-led companies that declare a social purpose in their articles of association, irrespective of their legal form and size, provided that they meet certain corporate governance criteria which will ensure their accountability for actively seeking to achieve such purpose. This would ensure that any expression of a company’s specific social purpose has legal force in order to guarantee to investors, consumers, employees or other stakeholders that the governance of that company is substantially oriented towards their social purpose, rather than only paying lip service to it.

There is where is cleanest business:

The Purpose of the Corporation Project

Frank Bold