Company report 2017 A PDF

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Examiners’ reports 2017

Examiners’ reports 2017 LA3021 Company law – Zone A Introduction The exam paper followed the same format as in previous years, save that for one question (Part A, Q1) there was a choice within the question itself. Students should refer to the Assessment Criteria to familiarise themselves with the criteria that are applied to assessed work. The best scripts tended to be those that ensured that each answer focused on the actual question being asked and the specific issues it raised. Good answers also demonstrated that the student had read around the subject and was able to apply this wider reading to the issues raised by the questions. The most common weakness was a failure to focus on the questions asked, as the specific comments below explain. Although most scripts attempted the requisite number of questions, a few scripts failed to follow the rubric of the exam paper, which required students to answer at least one question from Section A and at least two questions from Section B. Those who failed to follow the rubric usually chose to answer all questions from Section B. It is imperative that students are familiar with, and comply with, the instructions on the paper. Note that errors in student extracts, below, were present in the original extract. References to ‘CA 2006’ are to Companies Act 2006. References to IA 1986 are to the Insolvency Act 1986.

Comments on specific questions

PART A Question 1 EITHER a) What are the purposes of UK company law’s rules on the maintenance of share capital, and how well do those rules meet these purposes? OR b) ‘The codification of the duties of directors, in the Companies Act 2006, has been a failure. Sections 170–177 of that Act need further reform.’ Discuss.

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General remarks This question gave a choice of topics to students. Part (a) addressed a topic infrequently examined in recent years, namely capital maintenance rules. Students had to identify the purposes of those rules and then to evaluate how effectively the rules meet those purposes. Part (b) addressed a topic that has come up a bit more frequently on past examination papers, namely the codification of the duties of directors. It required students to evaluate that codification and to judge whether it’s worked well or badly. Students needed to say something about why the duties were codified and whether these purposes were achieved. Law cases, reports and other references the examiners would expect you to use For part (a), relevant case law includes: Ooregum Gold Mining Company v Roper; Re Wragg Ltd; Trevor v Whitworth; Bairstow v Queens Moat Houses plc; Re Halt Garage (1964) Ltd; Chaston v SWP Group plc; MT Realisations Ltd; Anglo Petroleum Ltd v TFB (Mortgages) Ltd; Brady v Brady. For part (b), s.170 CA 2006, especially s.170(4); ss.171–177; case law interpreting directors’ duties relevant to the success of the codification process; Law Comm. Consultation Paper 153, and Report 261, on Directors’ Duties; the proceedings of the Modern Company Law Review. Any relevant academic articles addressing either of these two topics. Common errors In part (a): a failure to answer the question, saying nothing about the purposes of this area of law and instead merely describing a few of the capital maintenance rules. In part (b): similarly, a failure to address the question, using it as an opportunity to summarise very briefly the different directors’ duties but saying nothing about the codification process found in CA 2006 and saying nothing about what, if any, reforms might still be required. A good answer to this question would… for part (a): explain purposes of capital maintenance rules, say in terms of creditor protection, or protecting the integrity of capital markets. Identify the main rules – on distributions, capital reductions, share buybacks and financial assistance. Identify the extent to which these rules do actually protect creditors, or uphold the integrity of capital markets. Discuss relevant case law. For part (b): discuss the nature of the codification achieved by CA 2006; focus especially on the limited or ‘partial’ nature of codification, especially as a result of the requirement, in s.170(4) to interpret the statutory duties in the light of preexisting case law. Consider the purpose of the codification exercise, in terms of, say, improving the accessibility and clarity of the law. Consider why the government chose to effect only a ‘partial codification’ and whether this undermines the purposes behind the exercise. A good answer might also offer some evaluation of the substantive merits of individual duties. It might ask if codification was intended to address defects in any of the duties, if this was achieved, and whether any outstanding defects remain to be addressed. Poor answers to this question… (both part (a) and part (b)), failed to answer the question. They provided only a basic summary of some parts of the law – for example, some aspects of capital maintenance, or some of the directors’ duties but made no real attempt to address the substance of the question.

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Examiners’ reports 2017

Question 2 ‘In attempting to improve the corporate governance of large, public companies, far too much attention has been paid to ensuring that boards have sufficient female directors and sufficient independent non-executive directors. By contrast, not enough attention has been paid to giving shareholders the power and the duty to control their companies.’ Discuss. General remarks This question addressed the issue of corporate governance developments in large companies. It required, however, a discussion of a number of different aspects of corporate governance – in terms of different strategies that have been, or perhaps should be, tried to improve the way large companies are run. It was important, therefore, to demonstrate some knowledge of these strategies (more female directors, more independent NEDs, more power to shareholders, etc.). Law cases, reports and other references the examiners would expect you to use In respect of increasing the number of female directors: mention should be made of the Davies Review (Women on Boards) and the changes to the UK Corporate Governance Code to reflect that review. In respect of increasing the number of independent NEDs, reference should also be made to the UK Corporate Governance Code (the 2016 version) and the Walker Review. In respect of empowering, or requiring, shareholders to be more active, refer to the Stewardship Code (2012). Consider also changes to the process for determining executive remuneration and, in particular, the introduction of the mandatory ‘Say on Pay’ by shareholders in the Business, Enterprise and Regulatory Reform Act 2013. Some mention might also be made of the Government’s November 2016 Green Paper on Corporate Governance Reform and of relevant academic articles addressing gender diversity, independent NEDs or shareholder activism/responsibilities. Common errors The common errors were the same as in previous years in respect of this type of question on the topic of ‘corporate governance’. So, too many students still seem to be preparing, or relying on, some ‘standard’ essay on the history of the UK Corporate Governance Code and are determined to regurgitate that essay regardless of what the question actually asks. Questions on the topic of corporate governance, such as this one, tend to be much more focused, requiring discussion of a specific aspect or issue. Too many answers also had very little to say about gender diversity and nothing on empowering/obliging shareholders to become more active. Answers that limit themselves to only a small fraction of the question, omitting issues that the question clearly requires to be discussed, inevitably received low marks. A good answer to this question would… note in what ways UK corporate governance reforms have addressed independent NEDs and the gender diversity of boards. Focus on the UK Corporate Governance Code and its requirement of at least half of the board being independent NEDs; note the ‘enforcement’ mechanism that applies to the Code – comply or explain. Discuss also recent moves to encourage gender diversity: the Davies Review, its ‘soft’ target of 25 per cent female board membership, amendment of the UK Code in consequence of that, the extent to which that target was achieved. A good answer would consider the reasons for this emphasis on independent NEDs and board diversity and ask whether it is appropriate or misplaced.

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A good answer would then consider whether sufficient attention has been paid to the powers and responsibilities of shareholders. On their powers, a good answer would ask if shareholders do have sufficient powers under current company law, and might note relevant provisions, such as the power of removal of directors, requirements of shareholder approval for certain classes of transactions, shareholder Say on Pay requirements, etc. Explain why a duty on shareholders might be appropriate, given ‘collective action’ problems and some discussion of shareholder responsibilities in the Stewardship Code. Poor answers to this question… tended simply to set out a discussion of the history of the Combined Code/UK Corporate Governance Code, with little attempt to examine the specific issues and the specific ‘claim’, which the question focuses upon. Question 3 ‘Section 994 of the Companies Act 2006 is effective in protecting minority shareholders.’ Discuss. General remarks This required students to examine one specific minority protection provision, namely s.994 CA 2006. It required students to describe and explain that provision but always with a view to analysing how effective the provision is. A mere description of (some) aspects of s.994, which made no attempt to evaluate its effectiveness, would inevitably score at best only a low mark. Law cases, reports and other references the examiners would expect you to use Ebrahimi v Westbourne Galleries; Oak Investment Partners v Boughtwood; O'Neill v Phillips; Re R A Noble & Sons; Grace v Biagioli; Re Blue Index Ltd Bird Precision Bellows Ltd; Re Home and Office Fire Extinguishers Ltd; Re Blue Arrow; Re Elgindata Ltd; Fulham FC v Richards. Some mention might also be made of relevant reports addressing these statutory regimes, such as Law Commission Report No.246 (Shareholder Remedies), and relevant academic articles. Common errors The most common error was a failure to stick to the issues raised by the question. It asked students to focus on one specific provision – s.994. It was not an invitation to write about every aspect of minority protection that students had memorised. It was permissible to include some mention of other provisions but only when this was being done in order to illustrate how effective – or ineffective – s.994 is, in the student’s opinion. It might be useful, for example, to note how wide are the remedies that are available following a successful s.994 petition, and then contrast this width with the narrow range of remedies available under say s.122(1)(g) IA 1986 or s.33 CA 2006. But some students chose simply to describe, in great detail, other areas of statutory protection – such as s.122(1)(g) IA 1986, or the rules on derivative claims, or the protection afforded by s.33 CA 2006 – without making any attempt even to compare what they were saying with the effectiveness, or ineffectiveness, of s.994. A good answer to this question would… explain the purpose of s.994 – to provide relief to any shareholder whose interests are being unfairly prejudiced. Explain the different ‘hurdles’ that a shareholder, seeking to rely on that provision, must overcome: conduct in affairs of company, what are the interests of a member; are those interests prejudiced; are they prejudiced unfairly?

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Then, show the interpretation of these different hurdles by the courts. Attempt some overall analysis of how easily a minority shareholder can satisfy this statutory test and thus how readily she can invoke s.994 to protect herself. Then consider the form of relief that will be given, noting especially the prevalence of the ‘buyout’ order. Note the terms of a buyout, whether this is sufficiently protective of the minority’s interests, and whether a buyout is, in any case, an effective way of resolving inter-shareholder disputes. Some comparison with other forms of minority protection (say a just and equitable winding up, derivative proceedings, or enforcement of the constitution) would be permissible but only provided it is being done to answer the question and thereby show how effective, or ineffective, s.994 is compared to alternative forms of minority protection. Poor answers to this question… failed to focus on the question, as noted above. Some tended to be very superficial in describing s.994, often copying out the wording of the statute but then saying little to explain the meaning or significance of key aspects of the statutory wording. Some lacked case law to explain the meaning of the statutory wording. Finally, some average answers were good at describing s.994 but then had little to say about whether the section therefore seems to provide effective protection for minority shareholders. Student extract This question requires discussion on one of the protective measures/ways through which a minority is protected. It is true to state that, yes, s.994 has to a great extent protected the interests of minorities. S.994 plays a pivotal role in protecting minorities in the quasi partnership companies (small companies) where there are a small number of shareholders who are generally the director and the employees of the company as well. Thus if the relationship breaks down, it would have serious consequences for the running of the company. Nevertheless, in such companies s.994 acts as a vehicle to give rights to the minority. S.994 states that if the (a) conduct of the affairs of the company are managed in such a way that (b) unfairly prejudices the ‘interests of the members’. The conduct is described in various cases such as Re Legal Costs and Re Coroin Limited that the conduct must refer to the affairs of the company and not to individual private affairs. Also, in the case where members want to sue against each other, s.994 will cease to operate. Also, in the case of Oakwood, it was stated that if the director or senior employee improperly asserts control over the company, then they may be required to sell their shares. [The answer then went on to discuss the meaning of the ‘interests of the member’, noted the significance of the case of Ebrahimi, and continued.] Also in this case it was stated that the courts will look beyond the formal constitution of the company, and will impose equitable restraints to protect the minority. The minority’s legitimate expectations are not to be overridden. In Re a Company, Lord Hoffmann stated that the minority will not be considered to be unfairly prejudiced if they have consented to the way they are being treated, say in an agreement with the majority. However, if the minority was unreasonably excluded from management, then this will be

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considered to be against their interests and unfairly prejudicial (Re Ghyll Beck). [The essay went on to consider whether mismanagement might constitute unfairly prejudicial conduct, and then turned to the issue of remedies under s.996. It summarised clearly what remedies are available, and continued.] Nevertheless, the most successful remedy has been the buyout of shares, as seen in the case of Biagioli. Also, the cases of Bird, and Re Addbins, stated that the price must always be calculated on a pro-rata basis and without discount, disregarding Irvine which stated a discount should be given in some cases. [Finally, the essay included a summary of the Law Commission’s report on minority protection, and then concluded.] In view of the foregoing, it can be seen that based on s.994, minority shareholders are effectively protected, yet in some cases where there has been no informal agreement between the shareholders, or where there is a formal commercial agreement that benefits the majority, the court goes in favour of the majority. However, unlike with derivative claims, the minority has to bear their own costs under s.994. Nevertheless, s.994 is the most effective and practical remedy which is available to a minority. Comments on extract Interpretation of the question: this was good – the answer suggested that the student understood the question being asked. Relevance of the answer to the question: again, good. The answer focused clearly on the question asked. It did not wander off onto other provisions, except occasionally for purposes of comparison. And it did what the question asked – it evaluated s.994 to see how effective is the protection it gives to minorities. Substantive knowledge: good. The student showed s/he understood s.994 itself and was able to break down the statutory wording, and identify the different ‘hurdles’ a minority must get over to succeed. S/he also clearly understood the remedies available and the terms on which these remedies are granted. Use of authorities: good – lots of cases referred to – and the most important cases identified and explained clearly. Articulation of argument: it flowed coherently. It had a clear point to make in relation to the question, which was identified at the outset in the introduction (the answer is ‘yes’) and the essay finished with a clear conclusion, which again was closely related to the question asked. The essay was constructed like an argument, with a conclusion to work towards and lots of individual points/analysis offered to support that conclusion. Accuracy of information: generally good. The discussion of remedies was particularly good. The essay got the essentials about the tests for unfairly prejudicial conduct. Clarity of expression: mostly good, although sometimes points were not expressed or explained quite as clearly as they might have been. Legibility: OK. Overall, this was a very good essay, although a little short of a first class one.

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Question 4 A company’s stakeholders, such as its employees or consumers, can now insist, under section 172 of the Companies Act 2006, that their interests are given the same importance as the interests of shareholders. Do you agree? Should stakeholders’ interests be treated in this way? General remarks This question had two parts to it, both of which the student needed to answer. The first part was a ‘descriptive’ question. It required students to explain the meaning and effect of s.172 CA 2006 and, in particular, whether it does mean what the question suggests (namely that stakeholders, such as employees and consumers, can insist on their interests ranking as highly as shareholders’ interests). The second part was a ‘normative’ question. It required students to say whether, in their opinion, stakeholders’ interests should be treated in this way (or whether, for example, the shareholders’ interests should take priority or ‘primacy’ over the interests of other stakeholders). Law cases, reports and other references the examiners would expect you to use In understanding and explaining s.172 itself, relevant cases might include: Regentcrest plc v Cohen; Extrasure Travel Insurances Ltd v Scattergood; Charterbridge Corp v Lloyds Bank Ltd; West Mercia Safetywear Ltd v Dodd. Some mention should also be made of s.172(3) and the interests of creditors. Students needed also to refer to those provisions that deal with the enforcement of the duty under s.172. So, mention s.170(1) Companies Act 2006, explaining duties are owed to company, and Foss v Harbottle, explaining who must sue for any breach of s.172. Note the provisions on derivative claims, in Part 11 Companies Act 2006 and who may bring such claims (not stakeholders). On the normative part of the question, some reference might be made to any of the abundant literature that discusses the debate around shareholder primacy versus stakeholding. Common errors A common error was the failure to analyse s.172 in sufficient detail. The question asks if stakeholders can really insist that directo...