Directors are already ahead of the curve on ESG

OPINION: Bell Gully has suggested the Companies (Directors Duties) Amendment Bill be scrapped because it is unnecessary and may have unintended consequences.  

Among the issues noted in its submission on the bill were the risk of increasing litigation, increasing compliance costs and encouraging a check-box mentality. 

Bell Gully is not the first law firm to raise concerns. 

Chapman Tripp has suggested the bill could be a distraction when more comprehensive reform may be needed. Russell McVeagh said the bill may create confusion as to the scope of directors’ duties because it highlights representative issues such as environmentalism and the recognition of the principles of the Treaty of Waitangi. 

As a quick recap, the bill aims to clarify that directors may take into account non-financial factors – what are usually referred to as environmental, social and governance concerns (ESG) – when determining the 'best interests' of a company. 

Casting a governance lens over the bill, as opposed to a legal lens, it is difficult to see much risk to directors from explicitly stating they may consider ESG concerns.

A governance perspective 

To my eye, the impact of the amendment is political, rather than regulatory. 

It would introduce language to the Companies Act that explicitly rejects the – now increasingly open to challenge – idea that the best interests of a company should be restricted to maximising short-term profits and shareholder returns. 

More specifically to a couple of the issues raised by Bell Gully, I should note that a check-box mentality can exist under any regulatory regime. 

This is not best-practice governance, and the Institute of Directors expects its members to go beyond that approach in their considerations, focusing not just on the letter of the law, but also on the spirit and intended outcomes of regulation.  

Avoiding a check-box mentality is increasingly important for boards as New Zealand’s regulators (the Financial Markets Authority and WorkSafe, for example) move towards prioritising outcomes when reviewing corporate behaviour and board decision-making, not simply checking for alignment with the rules. 

Changing community expectations are another factor that makes a box-tick approach risky as public pressure continues to grow for action in areas such as climate action, modern slavery and wealth disparity.  

As to the risks of increasing litigation and compliance costs, I doubt the bill (if passed in its current form) would have a significant impact in those areas. 

It doesn’t actually require boards to consider anything in particular, or exclude anything in particular, when acting in a company’s best interests, so the opportunity for legal traction is likely to be limited. 

But it could, ironically, create uncertainty where none really exists now. 

So where to? 

In our submission on the bill, the Institute of Directors was neutral on whether it should proceed. 

In some ways, it avoids addressing the real questions: 

• What exactly are the “best interests” of a company?
• How can directors identify and act on those interests?
• How can they be transparent about the judgments they make? 

These questions are left open in the Companies Act and the answer is going to be different for every organisation, depending on its constitution, purpose and vision.

Our view is that if there is an issue here that requires legislative change, it should be identified clearly, up front. Otherwise, a lot of time can be spent making changes that don’t have clear objectives and don’t deliver clear benefits.  

There is certainly scope for a review of the Companies Act, something many of our legal colleagues agree with. The act was passed in 1993 and could do with updating.  

The landscape directors operate in today – globally, not just here – is vastly different to that of the early 1990s. Simply looking at the ESG concerns that sit at the heart of this bill shows a dramatic shift, although the question remains open as to whether legislation is the best response to this. 

If the objective of the bill is to increase consideration of ESG concerns, it is pretty clear this is already happening.

Directors are ahead of the curve

Perhaps what would be most useful to the governance community, to regulators and to future legislators would be a clarification of what 'best interests' means in the Companies Act, and how directors can show they have met the test and acted in good faith. 

Should the select committee conclude legislative change is required, we propose that company boards should be asked to produce an annual 'best interests statement' that explains how they interpret the requirement and how they have met it. 

This could include reflections on the purpose of the company and its constitution. 

That would at least give us a shared starting point for understanding what directors are thinking and doing, and provide a proof point should future governments – or private members – seek to further “clarify” what directors’ duties actually encompass. 

This article was originally published by BusinessDesk

About the author

Guy Beatson is the general manager, Governance Leadership Centre at the Institute of Directors. He is an experienced senior leader who has worked with public, private and not-for-profit entities in New Zealand, Fiji, Mongolia, Australia and the US.