The 2018 UK Corporate Governance Code

On 16 July 2018, the Financial Reporting Council (FRC) published the 2018 edition of the UK Corporate Governance Code (the Code), following a public consultation launched in December 2017. The new Code is accompanied by an updated Guidance on Board Effectiveness, a Feedback Statement comparing the 2016 and the 2018 versions of the Code, and an Annex to the Feedback Statement outlining the amendments to Code resulting from the 2017 consultation.

As indicated in a previous post, the new code is shorter and more concise, due to the elimination of the supporting principles (most of which are incorporated in the new Guidance on Board Effectiveness). Companies who are bound by the Code are required to apply the Principles and state, on a ‘comply or explain’ basis, how they applied the Provisions. Companies are urged to avoid a box-ticking approach or boilerplate statements and provide meaningful explanations of their implementation of the Code.

Key changes to the consultation version of the Code include the following:

Section 1 – Board leadership and company purpose

  • The purpose of the company

The Code maintains a principle of stakeholder engagement, which requires the board to ensure effective participation and engagement of shareholders and other key stakeholders (Principle D and Provisions 2 and 5). Principle A, stating that the board should promote the long-term success of the company, generate value for shareholders and “contribute to wider society” has been criticised during the consultation process as being misaligned with s172 (1) of Companies Act 2006 (Duty to promote the success of the company), which does not mention the wider society. In response, the Feedback Statement clarifies that “Nothing in this new Code overrides or is intended as an interpretation of the statutory statement of directors’ duties in the [Companies] Act.”

  • Significant shareholder dissent

The consultation version introduced an obligation to disclose and engage with significant shareholder votes against a board recommendation for a resolution. The Code maintains this obligation but the new wording of Provision 4 clarifies that a significant vote against is a vote of “20% or more” (compared to “more than 20%” in the consultation draft). In such a case, the board should explain what actions it intends to take to consult shareholders in order to understand the reasons behind the result, publish an update on actions taken within six months from the vote and provide a final summary, normally in the annual report.  Details of significant votes against and related company updates are available on the Public Register maintained by the Investment Association.

  • Engagement with the workforce

The Code maintains the three methods of engagement introduced by the consultation document (a director appointed from the workforce; a formal workforce advisory panel; or a designated non-executive director), but states that one or more of these methods “should” be used (as opposed to the previous version, “would normally be”). However, the Code allows companies to adopt alternative arrangements, provided that they explain why they are more effective. The Code maintains the requirement of implementing a whistleblowing procedure allowing the workforce to report anonymously “any matters of concern” (Principle E and Provision 6).

Section 2 – Division of responsibilities

  • Independence of non-executive directors and the Chair

The Code retains the current position that at least half of the board, excluding the chair, should be independent. Following significant concerns raised during the consultation, the FRC has reconsidered its position on independence criteria, by removing the requirement that individual non-executive directors (NEDs), including the chair, should not be considered independent if they don’t meet one or more of the independence criteria. Instead, the FRC has restored the previous provision which gave the board discretion to determine whether a NED is independent when he or she does not satisfy one of the independence criteria. The FRC has indicated that it expects “a clear explanation” when companies report on their assessment of independence of board members (Provision 19). The FRC has also reconsidered its position on the independence requirement for the Chair, abandoning the requirement of independence throughout the entire term of the tenure (Provision 9).

  • Time commitments

The Code expands on the provisions regarding time commitment of directors, by requiring prior disclosure of significant commitments, “with an indication of the time involved”. Full-time executive directors are not allowed to take on more than one non-executive directorship in a FTSE 100 company or any other “significant appointment”. (Provision 15)

Section 3 – Composition, succession and evaluation

  • Length of tenure of the Chair

The new Provision 19 states that the chair should not remain in post beyond nine years from the date of first appointment to the board. This period may be extended in exceptional circumstances, to facilitate effective succession planning and the development of a diverse board. In such cases a clear explanation should be provided.

  • Diversity and inclusion policy

The code expands a previous provision of the consultation version, by requiring inclusion in the annual report the company’s policy on diversity, its objectives and link to company strategy, how it has been implemented, and the progress made on achieving the objectives (Provision 23). Further requirements on diversity of board members and pipeline are included in Principles J and L and Provision 17, and remain largely unchanged.

Section 4 – Audit, risk and internal control

There are no notable changes in this section compared to the consultation version. The Code highlights the need for the board to satisfy itself on the integrity of financial and narrative statements (Principle M). Provision 25 spells out the responsibility of the audit committee to provide advice (where requested by the board) on whether the annual report and accounts, taken as a whole, are fair, balanced and understandable, and provides the information necessary for shareholders to assess the company’s position and performance, business model and strategy.

Section 5 – Remuneration

  • The role of the remuneration committee

The remuneration committee has the responsibility to determine the remuneration policy for executive directors, and setting the remuneration for the chair, executive directors and senior managers. In response to concerns raised during the consultation, the updated Provision 33 states that the remuneration committee also “reviews” remuneration policies for the wider workforce, as opposed to “overseeing” them (a role traditionally held by executives).

  • Remuneration policy and practices

The Code maintains an emphasis on the need to align executive remuneration with the company purpose, values and long-term strategy. Provision 40 adds risk to the list of factors that the remuneration committee should consider. It states that remuneration arrangements should ensure reputational and other risks from excessive rewards, and behavioural risks that can arise from target-based incentive plans, are identified and mitigated.

  • Remuneration schemes

The updated Provision 36 states that share awards should be released for sale on a phased basis and be subject to a total vesting and holding period of five years or more. Provision 38 emphasises that executive pension entitlements should be in line with those available to the rest of the workforce. Moreover, the remuneration committee has to ensure that remuneration schemes do not reward poor performance and are flexible enough to accommodate a departing director’s obligation to mitigate loss (Provision 39).

The Code will apply to accounting periods from 1 January 2019, with the first annual reports based on it due to be published in 2020. However, during 2019 companies will have to comply with Provision 4 on disclosure requirements following a 20% or more negative vote, and will have to take into account the provisions of the Code and the Guidance on remuneration policies.

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The Wates Principles of Corporate Governance for Large Private Companies

The recent corporate failures have drawn public attention to the lack of transparency and accountability in many large companies, and the risks that business failure poses to employees, suppliers, customers and other stakeholders. Traditionally, the UK corporate governance has focused on transparency, accountability and stakeholder engagement in large public companies. The UK Corporate Governance Code (currently under revision), which is binding on a ‘comply or explain’ basis to premium-listed companies, has many provisions that are unsuitable to other large public or private companies. Such companies, however, constitute a vast portion of the UK economy, and their actions have a significant impact on their stakeholders and wider society. Consequently, the need arose for an additional set of corporate governance principles designed to promote responsible business practices and long-term value in large private companies.

The 2016 Green Paper consultation on Corporate Governance Reform considered the role of corporate governance in large private companies and asked whether such companies should be required to meet minimum governance and reporting standards. In April 2017, the Business, Energy and Industrial Strategy Committee of the House of Commons noted in its Corporate Governance Report that private companies with a significant presence in the community should be required to report on non-financial matters for the benefit of their employees and other stakeholders. The Committee recommended that the Financial Reporting Council (FRC) and others develop an appropriate corporate governance code with which these companies would be expected to comply. Subsequently, in its Response to the Green Paper consultation published in August 2017, the Government argued that the case had been made for strengthening the corporate governance framework for large private companies, and invited the FRC to work with relevant industry partners to develop a voluntary set of governance principles for large private companies. It also announced its intention to introduce secondary legislation requiring all companies of a significant size to disclose, inter alia, their corporate governance arrangements.

Following these developments, in early 2018 the FRC established the Coalition Group, comprising senior representatives from various organisations and stakeholders including the FRC, the British Private Equity and Venture Capital Association, the Confederation of British Industry, ICSA, the Institute of Business Ethics, the Institute of Directors and the Trades Union Congress. Led by James Wates CBE, the Group was charged with developing a set of principles promoting best practice in corporate governance and reporting arrangements of large private companies. On 13 June 2018, the FRC published the Wates Corporate Governance Principles for Large Private Companies, for public consultation. The consultation is seeking feedback on ten individual questions, which aim to determine whether the Principles are sufficiently comprehensive to be meaningful and robust, while retaining enough flexibility to enable widespread adoption. Comments are also sought on the ‘apply and explain’ approach and on practical solutions for monitoring the application of the Principles. The consultation closes on 7 September 2018, with the final version expected to be published in December 2018.

The Wates code has six principles. Each principle is stated and briefly explained, but there are no subordinated provisions for companies to comply with or against which to report. Instead, each principle is accompanies by supportive guidance, intended to assist companies to apply the Principles in practice. The six Principles are:

  1. Purpose: An effective board promotes the purpose of a company, and ensures that its values, strategy and culture align with that purpose.
  2. Composition: Effective board composition requires an effective chair and a balance of skills, backgrounds, experience and knowledge, with individual directors having sufficient capacity to make a valuable contribution. The size of a board should be guided by the scale and complexity of the company.
  3. Responsibilities: A board should have a clear understanding of its accountability and terms of reference. Its policies and procedures should support effective decision-making and independent challenge.
  4. Opportunity and risk: A board should promote the long-term success of the company by identifying opportunities to create and preserve value, and establishing oversight for the identification and mitigation of risks.
  5. Remuneration: A board should promote executive remuneration structures aligned to the sustainable long-term success of a company, taking into account pay and conditions elsewhere in the company.
  6. Stakeholders: A board has a responsibility to oversee meaningful engagement with material stakeholders, including the workforce, and have regard to that discussion when taking decisions. The board has a responsibility to foster good stakeholder relationships based on the company’s purpose.

The Principles are set at a high level of generality, in order to accommodate the variety of management and ownership structures present in large private companies incorporated within the UK. However, a company that adopts the Principles is expected to apply them fully, and to provide a supporting statement for each principle explaining how their corporate governance processes operate and achieve the relevant aims and outcomes.

The Wates Principles will facilitate compliance with the proposed requirement for certain large companies (which are not already required to provide a corporate governance statement) to disclose their corporate governance arrangements. The Companies (Miscellaneous Reporting) Regulations 2018, laid before Parliament on 11 June 2018, require such companies to publish in their directors’ report and on their website a statement about their corporate governance arrangements, including whether they follow any formal corporate governance code. The new reporting requirement applies to all companies that satisfy one or both of the following conditions: (i) have more than 2000 employees; (ii) have a turnover of more than £200 million and a balance sheet total of more than £2 billion. Companies will be able to adopt the Wates Principles as the appropriate framework when making this disclosure, but they will be free to apply other governance codes (such as the Corporate Governance Code developed by the Quoted Companies Alliance). In addition, the draft Regulations require companies of a certain size to publish a statement explaining how directors have complied with s. 172 (1) of Companies Act 2006, to provide details of the company’s engagements with employees, supplies, consumers and other relevant stakeholders, and to disclose the gap (‘pay ratio’) between the total remuneration of the chief executive officer and the median employee pay and benefits.

It is hoped that Wates Principles and the further disclosure requirements of the draft Regulations will help restore public trust in how big businesses operate and will encourage companies of all sizes to operate responsibly and foster long-term stakeholder relationships.

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Ownership of UK Quoted Shares: the 2016 Update

The Office for National Statistics has recently published its latest statistical bulletin of the share ownership of UK companies quoted on the London Stock Exchange. According to the new figures, the proportion of ordinary shares owned by foreign investors is at another record high, reaching 53.9% at the end of 2016, compared to 53.7% in 2014. At FTSE 100 level, rest of the world investors hold 56% of shares, up almost one percentage point from two years ago. The proportion of quoted shares owned by investors outside of the UK has grown significantly over the past four decades, as a result of the increasing internationalisation of the UK stock market and the ease with which overseas residents can invest in UK-quoted shares. Within the rest of the world group, North American institutional investors (unit trusts, pension funds and other financial institutions) continued to increase their UK holdings, getting closer to the 50% share of the group. European investors hold around 26%, followed by Asians with around 15% of the foreign investors share. Another notable point is the stability of the percentage of shares held by individual investors, after decades of marked decline. In 1963 individuals owned approximately 54% of UK quoted shares, dropping to around 10% in 2012. In 2014, individual ownership increased to an estimated 12.4%, while in 2016 it stood at 12.3%. As concerns UK-based institutional investors, the latest numbers show a slight increase in the holdings of unit trusts and other financial institutions (such as index funds, hedge funds or socially responsible and ethical funds), and a slight fall in the holdings of insurance companies.

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A more stakeholder-friendly UK Corporate Governance Code

Earlier this month, the Financial Reporting Council issued a public consultation on a comprehensive review of the UK Corporate Governance Code. The review aims to make the code more focused and concise, and align it with the new economic and social climate. The first aim is achieved by removing the supporting principles and incorporating them in the main principles or in a revised Guidance on Board Effectiveness. The second aim is reflected in a new focus on stakeholder engagement, corporate culture, diversity and the long-term success of the company.

The proposed code has five main sections, which broadly correlate to the previous sections: (1) Leadership and purpose; (2) Division of responsibilities; (3) Composition, succession and evaluation; (4) Audit, risk and internal control; and (5) Remuneration. The only exception is Section E of the current code (Relations with shareholders), which has been integrated throughout the revised code. Substantively, the proposed amendments incorporate insights from several reports and papers published over the past years, including: the Government Green Paper Consultation on Corporate Governance Reform, the FRC’s report on Corporate Culture and the Role of Boards, the Davies Review on gender balance of FTSE 100 boards, the Hampton-Alexander Review on FTSE women leaders, and the Parker Review of the ethnic diversity of UK boards.

One of the most important amendments is an express and wide recognition of the role of non-shareholding constituencies. The current version of the code has a strong shareholder wealth maximisation focus, and lacks any relevant stakeholder provisions. Following the recommendations of the reports mentioned above, most notably the Green Paper Consultation and the Culture Report, the revised code introduces several responsibilities towards stakeholders. First, Principle C requires directors to consult and take into account the interests of all corporate constituencies: “In order for the company to meet its responsibilities to shareholders and stakeholders, the board should ensure effective engagement with, and encourage participation from, these parties.” This principle is meant to align the Code with the enlightened shareholder value approach adopted in the Companies Act 2006. The responsibility to engage all constituencies is reinforced by a requirement on the board to explain in the annual report how it has engaged with all stakeholders and how their interests influenced the board’s decision-making (Provision 4). Second, the revised Code introduces a responsibility to ensure that the workforce is able “to raise concerns in relation to management and colleagues where they consider that conduct is not consistent with the company’s values and responsibilities.” (Principle D). This is supported by the board’s responsibility to establish a method for gathering the views of the workforce such as: a director appointed from the workforce; a formal workforce advisory panel; or a designated non-executive director (Provision 3). The term ‘workforce’ is a deliberate choice, as it includes not only persons with formal contracts of employment, but also other types of workers such as agency workers and those providing services on a self-employed basis. Moreover, Section 5 on Remuneration provides that the annual report should explain the company’s approach to developing and rewarding the workforce, and the mechanisms adopted by the company to inform its workforce on how executive remuneration aligns with wider company policy.

Another notable revision is the emphasis on diversity in the appointment, succession planning and evaluation of corporate boards. Principle J introduces a broad definition of diversity, which includes “gender, social and ethnic backgrounds, cognitive and personal strengths.” Provision 17 expands the scope of the nomination committee by including a responsibility to oversee “the development of a diverse pipeline for succession.” The new code also includes a responsibility to disclose, in the annual report, how the processes applied in relation to appointment planning support a diverse pipeline, what other actions the board has taken to promote a diverse pipeline, an explanation of the relation between diversity and the company’s strategic objectives and the gender balance of senior management and their direct reports (Provision 23).

The consultation will remain open until the end of February 2018. The new code is expected in early summer 2018, together with a revised version of Guidance on Board Effectiveness.

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Fiduciary duties and sustainable finance

Earlier this month, the European Commission launched a public consultation on the need to clarify that the fiduciary duties of institutional investors and asset managers allow (or require) them to take into account environmental, social and governance (ESG) factors when making investment decisions. The consultation is part of a broader EU commitment to align its financial system with the objective of global sustainable development. To this end, in December 2016 the Commission appointed a High-Level Expert Group (HLEG), and mandated it to develop a set of recommendations on how to integrate sustainability into EU financial policy.  In its Interim Report, published in July 2017, the HLEG formulated a series of recommendations for reforming the EU’s rules and financial policies to facilitate green and sustainable investment. They included the need to harmonise the different formulations and standards of fiduciary duties across all relevant EU financial regulation instruments. Specifically, the HLEG recommended the creation of “a single set of principles of fiduciary duty and all its related concepts that can then feed into the respective relevant laws according to the specificities of market participants. The regulatory authorities need to make clear… that managing ESG risks is integral to fulfilling fiduciary duty, acting loyally to beneficiaries and acting in a prudent manner.”[1] In addition, the Interim Report suggested the creation of a set of guidelines that specify in more detail the relevant fiduciary duties and standards. In the HLEG’s view, these duties include:

  • a duty to act with due care, skill and diligence
  • a duty to act in good faith in the best interests of beneficiaries and clients
  • a duty to avoid, or balance the conflicting interests of different classes of beneficiaries
  • a duty to avoid acting in the fiduciary’s own interest or in the interest of a third party, without the prior informed consent of the beneficiaries
  • duties to include ESG considerations in their investment decision and processes, to encourage high standards of ESG performance in their investee entities, and support the stability and resilience of the financial system.[2]

Some of the main arguments for a uniform approach to fiduciary duties presented in the Interim Report include the following. First, there is a “growing consensus” that institutional investors and financial intermediaries have an obligation to include ESG considerations in their investment decisions, and making such an obligation explicit would bring this approach into the mainstream and remove any remaining doubts or tendencies to focus exclusively on financial returns. Second, duties of loyalty and prudence and other related concepts are partly codified in several directives, but standards are at times unclear or inconsistent. A harmonised approach will allow the application of uniform fiduciary standards across the investment and lending chain and the full array of financial instruments. Moreover, it could serve as the foundation for a broader international articulation of fiduciary duties, such as an OECD convention, and as a model for national regulators to integrate ESG considerations into fiduciary duties.

Establishing a single set of fiduciary principles covering all the key participants in the investment and lending chain would certainly enhance the clarity, predictability and consistency of the relevant EU instruments and the national laws based on them. However, taking into account the multitude of circumstances in which fiduciary duties arise in the investment chain, as well as the different legal traditions coexisting in the EU, attempting to define and apply fiduciary duties uniformly is extremely ambitious. Furthermore, it seems that it is unnecessary to redefine or unify fiduciary duties for the purpose of allowing or requiring ESG considerations to be taken into account in investment decisions and processes.

One reason for this is that many institutional investors in Europe and elsewhere already have in place policies and principles for integrating ESG considerations in their investment. The 2016 study of socially responsible investment in Europe shows significant and consistent growth across all socially responsible investment strategies, with rates ranging from 30% for engagement and voting, up to 385% for impact investing. The study also found that interpreting fiduciary duties as narrowly focused on financial results is becoming a thing of the past: “fund managers have come to see ESG considerations as part of their investment obligations in line with their fiduciary duty.”[3] Another study by Global Sustainable Investment Alliance shows that socially responsible investing has become mainstream in Europe: 52.6% of the total managed assets in 2016 were subject to some form of sustainable and responsible investment strategy.[4]

Another reason is that the legal framework may not be a relevant obstacle to incorporating ESG considerations into the investment decision. A Report drafted by EY for the European Commission in 2014, looking at fiduciary duties in several Member States and comparing their regimes to common law (UK, USA, Canada), found that “no legal framework has been identified in the EU or any of its Member States that limits institutional investors from taking relevant environmental, social and governance (ESG) issues into account in their investment decisions.”[5] An earlier study published in 2005 by the United Nations Environment Programme Finance Initiative (UNEPFI) and Freshfields Bruckhaus Deringer investigated whether the integration of ESG issues in investment decisions was compatible with the fiduciary duties of finance institutions. It concluded that, given the increasingly recognised links between ESG factors and financial performance, “integrating ESG considerations into an investment analysis so as to more reliably predict financial performance is clearly permissible and is arguably required in all jurisdictions.”[6] Ten years later, however, a follow-up report published by the UNEPFI, Principles of Responsible Investment, UN Global Compact and UN Inquiry highlighted that, despite the sustained growth of the socially responsible investment, there is a need for the European Commission to clarify “that fiduciary duty requires asset owners to pay attention to long-term factors (including ESG factors) in their decision making and in the decision-making of their agents.”[7] This approach is preferable to a uniform legal definition and regime for fiduciary duties in the investment chain. A guidance document explaining the extent to which taking into account ESG considerations is compatible with fiduciary duties, including examples of best practice of sustainable investment, would be a more practicable solution to the need for clarity and uniformity, and would allow national authorities and regulatory bodies to adapt the EU guidelines to their national needs and conceptual legal framework.

[1] The EU High-Level Expert Group on Sustainable Finance, “Financing a European Economy: Interim Report” (2017) at 25.

[2] Ibid. at 24.

[3] Eurosif, “European SRI Study” (2016) at 7-8.

[4] Global Sustainable Investment Alliance, “Global Sustainable Investment Review” (2016) at 7.

[5] EY, “Resource Efficiency and Fiduciary Duties of Investors: Final Report” (2014) at 8.

[6] UNEPFI and Freshfields Bruckhaus Deringer, “A Legal Framework for the Integration of Environmental, Social and Governance Issues into Institutional Investment” (2005) at 13.

[7] UNEPFI at al, “Fiduciary Duty in the 21st Century” at 44.

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The Parker Review, One Year In

On 12 October 2017, the Parker Review published its Final Report on the ethnic diversity of UK boards, entitled “Beyond One by ‘21”. The Parker Review was created in 2015 to tackle the obstacles to ethno-cultural diversity in the boards of Britain’s largest companies. It is led by Sir John Parker, a former member of the Davies Review on board gender diversity. The Review published in November last year a consultation paper taking stock of the ethnic diversity in the FTSE 100 boards and proposing measures to increase the ethnic minority representation in these boards.

Previous to this consultation paper, several studies highlighted a lack of ethnic diversity at the higher levels of British business organisations. A 2014 study by Green Park revealed that over half of FTSE 100 companies had no non-white board members, while two-thirds had no full-time non-white executive directors. The study also found that some industries are more diverse than others. National resources, telecoms and banking/finance are the most ethno-culturally diverse sectors, while areas such as utilities, engineering and transport are the least diverse. Another 2014 study by Business in the Community found that between 2007 and 2012 there had been no progress in the representation of Black, Asian and minority ethnic (BAME) people in leadership positions in UK businesses. Although one in 10 UK employees belong to the BAME family, only one in 13 occupy management roles, and one in 16 are top management. Following these findings, in September 2014 the Financial Reporting Council announced that it considered opening consultations on updating the UK Corporate Governance Code on a number of diversity matters, including narrative reporting on ethno-cultural diversity.

Similar to these studies, the Parker Review report published this month found that the boards of UK’s largest companies are unrepresentative of their work force, customer base, supply chains and the British society more generally. The UK population has changed significantly over the past 40 years and boards have yet to reflect these changes. Currently, approximately 14% of the total UK population is made of “persons of colour” or from a “non-white” ethnic group (i.e. have evident heritage from African, Asian, Middle Eastern and South American regions).[1] At the same time, there are only 8% of directors of colour in the FTSE 100. Fifty-one of these companies do not have any directors of colour, while seven companies account for over 40% of the directors of colour. Only six people of colour hold the position of Chair or CEO in the FTSE 100. The report estimates that people of colour will form 20% of the total UK population by 2030, and 30% by 2051.[2] Faced with these trends, and with a demonstrated systemic failure by British businesses to draw on an appropriate range of ethnicities in selecting their leaders, the Parker Review proposed a series of objectives and recommendations covering three main areas.[3]

  • Increasing the ethnic diversity of UK boards

The Review proposed a target of minimum one director of colour in each FTSE 100 board to be attained by 2021, and FTSE 250 by 2024. Nomination committees of all FTSE 350 companies should require their internal HR departments or executive search firms to include qualified people of colour on the list of candidates for board appointments. Furthermore, the Review recommended that executive search firms apply the Standard Voluntary Code of Conduct developed in the context of gender-based recruitment to the recruitment of minority ethnic board candidates for FTSE 350 companies.

  • Developing the pipeline

FTSE 350 boards should implement systems to develop and promote persons of colour within their organisations. Such systems should ensure that the company has a viable pipeline of internal board candidates who appropriately reflect the importance of diversity in their organisation. Board members should also mentor and sponsor people of colour within their own companies to ensure their readiness to assume senior managerial or executive positions internally, or non-executive roles externally. In addition, companies should foster the leadership and stewardship skills of employees with diverse backgrounds, including people of colour, by encouraging them to take board roles within the company or the larger corporate group, or trustee roles with external organisations.

  • Enhancing transparency and disclosure

The Review recommended enhanced transparency on the policies and processes that companies have in place to monitor and increase the ethnic diversity within their organisation, including at board level. Companies should disclose in their annual report their progress towards the 2021/2024 targets, and, where applicable, explain why they have not been able to achieve compliance.

These recommendations were included in the consultation paper and carried forward in the Final Report without significant amendments. According to the latter document, the feedback received was overwhelmingly in support of the proposals, as drafted. One notable discussion point was the voluntary nature of the recommendations. In the course of drafting the consultation paper, the Review considered two alternative regulatory tools for achieving ethnic diversity in leadership: (i) statutory quotas (e.g. a mandatory requirement that each public company have at least one ethnic minority director); (ii) mandatory diversity in board candidate shortlists (e.g. a requirement that nominations committees ensure that shortlists include at least one person of colour). The Parker Review considered each of these options and concluded that, on balance, a voluntary approach is more realistic and appropriate. This approach was fully endorsed by the stakeholder feedback received during the consultation process.[4] Several commentators, however, argued that the transparency and disclosure obligations should be mandatory, with clear explanations of the link between a company’s diversity policy and its overall strategy.[5]

Another interesting point concerned the usage of the terms “people of colour” and “director of colour”. Several stakeholders took issue with this terminology and suggested instead more popular formulations, such as BAME (Black, Asian and minority ethnic). After reviewing this matter extensively, the steering committee of the Parker Review concluded that no single noun or group of nouns would be perfectly suitable. The terminology used in the consultation paper and the Final Report was deemed adequate, as it is wholly inclusive of the global stakeholders of FTSE 100 and FTSE 250 companies. The committee further reasoned that the terminology itself is secondary to the spirit of the report, and is clear enough to allow an adequate implementation of the recommendations.[6]

Given the timeframe of the recommendations, the Parker Review is expected to remain active at least until 2021, and monitor the progress towards these objectives. The consultation paper and the Final Report highlighted that, should there be insufficient progress, the Review may revise its approach and propose that the recommendations become mandatory. It is worth noting that the recommendations of the consultation paper were acknowledged and supported by the report on corporate governance reform in the UK published in April 2017 by the Business, Energy and Industrial Strategy Committee appointed by the House of Commons. In addition to these proposals, the Committee recommended that the Financial Reporting Council update the UK Corporate Governance Code and make explicit the issue of ethnic diversity by adding a reference to ethnicity wherever there is a reference to gender. Moreover, it was recommended that the revised Code require disclosure of information on diversity in the company’s board and workforce, covering diversity of gender, ethnicity, social mobility, and diversity of perspective, as well as a statement of how accurately the board composition mirrors the diversity of both the workforce and the customer base. The recommendations in the Parker Review consultation paper were also supported by the UK Government’s response to the green paper on corporate governance reform in the UK, published in August 2017.

In parallel to the work of the Parker Review, another review examined the issues affecting black and minority ethnic (BME) groups in the workplace. The McGregor-Smith Review, led by Baroness Ruby McGregor-Smith, was established in 2016 at the invitation of the Secretary of State for Business, Innovation and Skills. Its final report, entitled “Race in the Workplace”, was published in February 2017. It revealed that, in contrast to their white counterparts, BME people have 12% lower employment rates and are more likely to work in lower paid and lower skilled jobs, despite being more likely to have a degree. The key recommendations called on companies with more than 50 employees to tackle barriers to BME progression by publishing an annual breakdown of their workforce by race and pay band, drawing up five-year diversity targets, and nominating a board member to oversee progress on these targets.

Finally, it is worth mentioning an interim report published by the Trades Union Congress earlier this year. The report, entitled “Let’s Talk about Racism”, was compiled from a survey of over 5,000 Black and minority ethnic (BME) workers.[7] It unveiled that that racial harassment, bullying and discrimination remain prevalent in many British companies. BME workers who took part in the survey reported having experienced racist abuse and violence, excessive surveillance and scrutiny by supervisors and managers, restricted access to training and promotion opportunities, or unfair disciplinary actions. The report also found that many BME workers do not have the confidence to raise these issues with their employers, for fear of being labelled as trouble makers or forced to leave their job. The report made several recommendations for companies and the government. The former include strong equality, diversity and dignity policy with zero tolerance for racism, clear and simple procedures for up-the-ladder reporting of racism, and transparency on BME pay, recruitment, promotion and dismissal. The latter include tougher action against harassment and discrimination at work and legislation making employers responsible for protecting BME workers against racism by third parties, such as clients, contractors and customers.

[1] The Parker Review Committee, “A Report into the Ethnic Diversity of UK Boards: Beyond One by ‘21” Final Report (12 October 2017) 7.

[2] Ibid.

[3] Ibid at 46-49.

[4] Ibid at 14.

[5] Ibid. at 15.

[6] Ibid.


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The Gender Representation on Public Boards (Scotland) Bill 2017

Although women make up over 51% of the population in Scotland,[1] they are under-represented in political, civic and public life, and in senior decision making positions in the public and private sector.  Women hold only 35% of positions in the Scottish Parliament, 31% of the House of Commons, 29% of local government councillors in Scotland, and 24% of public board chairs.[2] To address this issue, on 15 June 2017 the Cabinet Secretary for Communities, Social Security and Equalities introduced the Gender Representation on Public Boards (Scotland) Bill to the Scottish Parliament. The Bill aims to redress the gender imbalance on the boards of public bodies by setting a gender representation objective of 50% for the non-executive members, and requiring positive action to encourage non-executive board applications by women.

The Bill is not the first effort of the Scottish Government to redress the gender imbalance in public authorities. In September 2008, the Commissioner for Public Appointments in Scotland issued an equal opportunities strategy for ministerial public appointments.[3] The strategy’s main aim was to raise public awareness about the importance of diversity in public bodies, and to reach out to a diverse pool of potential candidates for public appointments, with a particular focus on under-represented groups such as women, people from a minority ethnic background, LGBT people and disabled people. It urged public authorities to promote gender equality in their appointments, and to monitor the gender profile (among other characteristics) of their applicants.  Several years later, in April 2014, the Scottish Government launched a public consultation on the introduction of mandatory quotas of 40% of women representation on public boards.[4] The consultation also asked whether gender diversity quotas should be extended to company boards. This initiative did not lead to legal reform, as at that time the Scottish Parliament lacked the legislative powers to address this issue. The 2017 Bill was made possible by the Scotland Act 2016, which transferred competence to the Scottish Parliament to legislate on equal opportunities in relation to non-executive director appointments to the boards of Scottish public authorities.[5]

The Bill is a key commitment of the Scottish Government under its 2016-17 Programme.[6] It sits alongside the ‘Partnership for Change Pledge – 50:50 by 2020’ campaign announced in the 2014-15 Government Programme[7] and launched in June 2015. The campaign encourages public, private and third sector organisations to sign up to the Partnership for Change pledge and to set a voluntary commitment for board gender balance of 50:50 by 2020. The campaign has proven very successful so far, with over 90% of public bodies having taken the pledge.[8] The same Government Programme introduced the Scottish Business Pledge, an invitation to Scottish businesses to commit to fair and progressive business practices.[9] Signatories to the Business Pledge undertake, among other commitments, to make progress on gender diversity by putting in place progressive policies and practices. Businesses are encouraged to assess how their organisational culture supports diversity in the workforce, by using the Think Business, Think Equality self-assessment tool.[10] As at 2 June 2017, 371 businesses (representing a meagre 0.2% of the Scotland’s registered business base) had signed up to the Business Pledge.[11]

If the Bill passes, it will become part of a broader legal framework relevant to public sector board diversity. Under the Equality Act 2010, a public authority must, in the exercise of its functions, have due regard to the need to eliminate discrimination, to advance equality of opportunity and to foster good relations between people who share a protected characteristic and those who do not (the ‘public sector equality duty’).[12] The Equality Act 2010 (Specific Duties) (Scotland) Regulations 2012, as amended in 2015 and 2016, require Scottish Ministers to gather information on the relevant protected characteristics of board members of a listed authority, and to provide this information to the listed authority in question. The listed authority must use this information to better perform the public sector equality duty.[13] Moreover, listed authorities must publish every two years a mainstreaming report including details on the steps they plan to take across all relevant protected characteristics to promote diversity in their members.[14] Diversity provisions exist also with regard to appointment and succession of public sector board members. As regards appointments, the Commissioner for Ethical Standards in Public Life in Scotland issued in October 2013 a revised Code of Practice for Ministerial Appointments to Public Bodies in Scotland.[15] The revised Code stipulates three core principles underpinning public appointments in Scotland: merit, integrity, and diversity & equality. The latter principle requires that public appointments be advertised in a way that will attract a strong and diverse field of suitable candidates. As regards board succession, in January 2017, the Scottish Government issued a set of guidelines on succession planning for public body boards.[16] The guidance highlights diversity in relation to board members’ protected characteristics as a key issue central to a board’s approach to succession planning.

The content of the Bill

The Bill sets a board gender representation objective of 50% women non-executive directors to be achieved by 31 December 2022.[17] To attain this goal, the relevant appointing person must give preference to a woman candidate when there are two or more equally qualified candidates.[18] Exceptionally, when multiple equally qualified applicants exist, the appointing person may give preference to a candidate who is not female, if this is justified on the basis of a characteristic or situation particular to that candidate.[19] In addition to the tie-breaker provision, the Bill imposes on the appointing person or public authority several duties regarding the appointment process. First, they must take appropriate steps to encourage women to apply for non-executive board positions.[20] Second, whenever the gender representation objective is not achieved, they must take other appropriate steps with a view to achieving it by the 2022 deadline.[21] Third, certain public authorities must publish reports on their progress towards the objective, as instructed by regulations to be adopted by the relevant Scottish Ministers.[22]

The gender representation objective covers non-executive board members only. A ‘non-executive member’ is defined as a person who is not an employee of the public authority. Schedule 1 also specifies other members of the relevant public authority who are excluded from the Bill (for example, because they are elected rather than appointed to the board). The ‘appointing person’ envisaged by the Bill refers to a person who has the authority to appoint a non-executive member of a public board. In most cases, such person is the relevant Scottish Minister, deciding on the basis of recommendations from an appointing panel.[23] Examples of other appointing persons include the Lord President, for the Judicial Appointments Board for Scotland, or the Scottish Parliamentary Corporate Body, deciding for the Standards Commission for Scotland.[24] The ‘public authorities’ covered by the Bill are listed in Schedule 1. They include entities such as a college of further education (within the meaning of the Further and Higher Education (Scotland) Act 1992), a health board constituted under section 2(1)(a) of the National Health Service (Scotland) Act 1978, a regional transport partnership created under section 1(1) of the Transport (Scotland) Act 2005, the Scottish Social Services Council, the National Library of Scotland, the Board of Trustees for the National Galleries of Scotland, the Board of Trustees of the Royal Botanic Garden of Edinburgh, and Revenue Scotland. In addition, Schedule 2 of the Bill sets out special provisions for the Judicial Appointments Board for Scotland, the Regional Board for Glasgow Colleges, regional colleges, and the Scottish Criminal Cases Review Commission.

Reactions to the draft Bill

The initial draft version of the Bill was published on 5 January 2017. Between January and March 2017, the Scottish Government held a public consultation, seeking views on the content and application of the Bill.[25]

One of the main issues flagged up by the respondents was the binary definition of gender used in the draft Bill. In its initial version, section 1 defined the gender representation objective as achieving a board having ‘50% of non-executive members who are female or who identify as female’ and ‘50% of non-executive members who are male or who identify as male’. Respondents commented that the language in this section was not inclusive of people who do not identify as either a man or woman. Women 50:50, for example, suggested that a more inclusive gender representation objective would be 50% of females/persons who identify as female, and 50% of males/persons who identify as males or do no identify within a gender binary. The Scottish Legal Complaints Commission pointed out that the gender binary definition of the objective could force public authorities to categorise applicants as either male or female, in order to apply the tie-breaker provision. To avoid this, Stonewall Scotland suggested that the Bill clarify that where a non-binary person is equally qualified as other candidates, they may be appointed under the ‘exceptional circumstances’ clause. A binary definition of the gender objective may also be inconsistent with the Scottish Government’s commitment to consult on reforming the Gender Recognition Act 2004, with a view to bring in it line with best international practice.[26] Other respondents observed that the ‘male/identify as male’ and ‘female/identify as female’ may not be sufficiently inclusive of trans people. Close the Gap pointed out that, since ‘female’ and ‘male’ are used to describe biological sex, rather than gender identity, it would be more inclusive of trans persons to use ‘woman’ and ‘man’ throughout the Bill. Stonewall Scotland commented that female (male)/identify as female (male) creates an unnecessary distinction between cis and trans persons, which could have a detrimental impact on persons who share the protected characteristic of gender reassignment. As a result of these views, the Government amended the draft Bill by removing the male/female terms and redefining the objective as ‘50% of non-executive members who are women’.

Another common suggestion was that the appointment and outreach provisions of the Bill must make greater consideration of intersectionality. The Coalition for Racial Equality and Rights observed that a narrow focus on gender may potentially inhibit diversity as a whole, rather than improve it. A narrow approach may result in candidates with disabilities or belonging to a minority ethnic group not being offered a position in order to achieve a 50/50 gender objective. Similarly, Queen Margaret University commented that the emphasis on gender and the highly prescriptive requirements of the draft Bill may have the unintended consequence of discriminating against candidates with other protected characteristics. Although the Scottish Government did not amend the draft Bill to cover other protected characteristics, it stated in the Impact Assessment review that it is ‘prioritising work’ to address the under-representation of other groups in public sector boards.[27] It also observed that the promotion of women gives public authorities the opportunity to test their board recruitment processes and make them more inclusive of all potential candidates, irrespective of their protected characteristics.[28]

Finally, respondents highlighted the need for including reporting duties. Women 50:50 called for an obligation of public authorities to disclose their strategy to reach gender parity, including timescales and individual responsibilities. Furthermore, the Bill should provide for a Government duty to monitor the overall progress towards the objective and report to the Scottish Parliament. Close the Gap argued for reporting obligations aligned with existing reporting regulations and timescales under the public sector equality duty. Another respondent noted that the list of bodies covered by the draft Bill and those subject to the Equality Act Regulations do not overlap completely, and suggested reporting obligations covering only institutions not already subject to the public sector equality duty. In response, the Bill was amended to include a reporting duty the details of which are to be determined under regulations adopted by the Scottish Ministers.

Concluding remarks

The public debate that followed the publication of the draft Bill highlights the complex issues arising when the need to design effective boards intersects the need to advance equality of opportunity for people sharing a protected characteristic. The focus of the board diversity debate appears to have moved away from the desirability of board diversity to the need to reconcile promotion of gender diversity and intersectionality. The main arguments in support of gender diversity, such as the need to recruit from the widest possible talent pool, the need to have a greater understanding of all relevant stakeholders, or the superior board decision-making process, are ultimately arguments for diversity in its widest sense. At the same time, insights form corporate governance and strategic management show that boards of directors function better when they are relatively small and have a certain degree of cohesion that facilitates development of trust and celerity. The real challenge in making board diversity work resides perhaps not so much in achieving a fair representation of the diverse stakeholders relevant to a particular organisation, as in identifying and implementing decision-making processes that would allow a diverse board to function efficiently.

[1] National Records of Scotland, “Mid-Year Population Estimates Scotland, Mid-2016” (27 April 2017), available here.

[2] Scottish Government, “Gender Representation on Public Boards (Scotland) Bill EQIA Results Template” (June 2017) pp 3-4, available here.

[3] Office of the Commissioner for Public Appointments in Scotland, “Diversity Delivers: A strategy for Enhancing Equality of Opportunity in Scotland’s Ministerial Public Appointments Process” (September 2008), available here.

[4] Available here.

[5] 2016 c. 11. S 37(3) of the Act transfers competence to the Scottish Parliament to legislate on equal

opportunities “so far as relating to the inclusion of persons with protected characteristics in non-executive posts on boards of Scottish public authorities with mixed functions or no reserved functions.” The protected characteristics under the Equality Act 2010 are: age, disability, gender reassignment, marriage and civil partnership, pregnancy and maternity, race, religion or belief, sex, sexual orientation (2010 c.15 s.4).

[6] Scottish Government, “A Plan for Scotland: The Government’s Programme for Scotland 2016-17” p. 12, available here.

[7] Scottish Government, “One Scotland: The Government’s Programme for Scotland 2014-15” p. 28, available here.

[8] Scottish Government, “Gender Representation on Public Boards (Scotland) Bill EQIA Results Template” p. 4.

[9] Available here.

[10] Available here. This online self-assessment test is developed by Close the Gap, a charity funded by the Scottish Government.

[11] Scottish Business Pledge, “Statistical Overview June 2017”, available here.

[12] Equality Act 2010, 2010 c.15 s 149.

[13] The Equality Act 2010 (Specific Duties) (Scotland) Regulations 2012, regulation 6A.

[14] Ibid. regulations 3 and 6A.

[15] Available here.

[16] Available here.

[17] S1 and s6.

[18] S 4(3).

[19] S 4(4).

[20] S 5.

[21] S 6.

[22] S 7.

[23] SCG 9.

[24] SCG 9.

[25] The published responses are available here.

[26] Scottish Government, “A Plan for Scotland: The Government’s Programme for Scotland 2016-17” p. 77.

[27] Scottish Government, “Gender Representation on Public Boards (Scotland) Bill EQIA Results Template” p. 5.

[28] Ibid.

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Strategizing Boardroom Gender Diversity

We continue our series of guest contributions from our postgraduate community with an entry by Anindita Jaiswal. Anindita is a PhD student at our Law School. Her doctoral project, entitled “Female Directors on the Board: Viability from an Indian Perspective” is a critical assessment of the viability of the recently legislated quota, mandating one female director on the board of Indian public companies.

“Diversity” generally connotes variety, difference and mixed population. Historically perceived as a potential threat to social cohesion, it has evolved to become a necessary end of social justice.[1]  Regardless of what meaning and form it takes, diversity has carved out a permanent space for itself not only in social subjects but also across all disciplines, with corporate governance being no exception to it.[2]  More specifically in the context of board composition, the form of diversity that has assumed the maximum prevalence across countries is gender diversity,[3] i.e., female representation in corporate leadership.

Conflict of Rationales

To start with, a conflict of rationales – social justice versus the business case – emerged on a recurring basis, as regards which of the two better justifies diversity in the boardroom. While proponents of the former demanded gender balanced boards for reasons of gender equality, distribution of power, fairness and democracy,[4]  the latter was based on commercial utility, i.e., the idea that diversity adds value to board performance, corporate profits, and the business.[5]  Over the course of arguments, it was realised that the choice of rationale had no practical significance insofar as justifying boardroom diversity. Drawing a demarcation between the two rationales had no concrete relevance,[6] as such demarcation was seldom called for by the industry.

Thus, with some positive and some mixed-bag results, the debate was settled with a general industry wide acknowledgement of gender diversity as being a good governance practice.[7]  Accordingly, the debate has now shifted from “whether diversity or not” to “how to manage diversity”.[8]  In other words, the question whether or not the board should be diverse seems to have become obsolete, as the focus has now shifted to the next level, i.e., determining how such diversity can be optimally implemented.

How to determine the legal strategy?

To this end, countries have adopted strategies ranging from quotas of various kinds (incremental or fixed numbers, at individual company or industry levels, absolute or procedural), targets, disclosure requirements, to industry-led charters or agreements.[9]  Well-illustrated by Norway and United Kingdom (which converge upon a common goal of increasing female participation in corporate leadership, but via two contrasting pathways), all of such strategies can be located within the scale of mandatory regulation/hard law approach on one hand and voluntary regulation/soft law approach on the other hand.

What are the causes for the differences in strategies and policy approaches to board gender diversity?

A review of the two jurisdictions reveals that, while Norway primarily constructs its case on justifications of equality and social justice (with an ultimate diversity twist to ensure wider acceptance or least resistance from the business community),[10] UK is firm on its business motives (where equality has an under-tone influence so as not to overlap or trample upon business autonomy).[11] Such predominance of one rationale over another is what justifies why Norway (advocating fairer and egalitarian social norms) chose quota or hard law,[12] as against voluntary means or soft law adopted by the UK (motivated by business value addition).[13] Similar correlation can be observed in the context of France and Sweden. While France has legislated quota steered by prominent reasons of gender equality,[14] Sweden has resisted State intervention in business autonomy and rejected a quota proposal.[15] Thus, while the choice of rationale may not be significant to establish a case for boardroom diversity, the predominance of one over the other assumes relevance when determining the strategy to implement such diversity.

Further, an approach of hard law most often equates to rule-based governance,[16] as against principle-based governance, which aims at more flexible and value oriented behavioural change conforming to standards or norms, akin to soft law.[17]  In other words, an approach of hard law normally works well when it functions in rule-based style of governance (for instance, the Norwegian quota was built upon a legacy of such mandatory governance),[18] where both share a common aim seeking compliance. On a parallel note, soft law finds optimum prevalence in a principle-based governance system,[19] premised on standards and norms, as in the UK.[20]

Having said that, considering the unique mix/interplay of social and business concerns that is intrinsic to boardroom gender diversity, a more preferred approach could be an optimum balance of both- hard law and soft law.  Accordingly, an optimum strategy could be one that seeks to amalgamate the two approaches into a fine balance. Countries have sought to achieve such balance through a single hybrid strategy (like comply-or- explain, flexible quota, procedural quota), and/or through a mix of strategies (as witnessed in the Swedish context),[21] targeted at the overall board level or specific to non-executive roles only.

Does the same strategy work for executive and non-executive directors alike?

As mentioned above, countries have mostly promulgated a single overarching strategy for the overall board, or specific strategy for non-executive roles while exonerating executive positions altogether or subjecting the latter to the same strategy but with lesser stringent rules. For instance, as can be observed in the proposed EU Directive, the strategy is to impose an obligation for listed companies to undertake individual commitments regarding gender balance in executive director positions.[22] Likewise, in the UK’s Hampton-Alexander Review of 2016,[23] the strategy remains that of being voluntary targets, as is applicable to other board positions. Also, quota forms the dominant strategy for France and Norway (including the executive directors in the former case, and excluding them in the latter).

Adoption of different strategies for the two sub-sets of the board is uncommon at national level. It is here that a divergence is suggested from the regular course commonly adopted by countries. To explain further, it is suggested that a balance of hard and soft law approach, which is desired in the context of corporate governance (and more specifically, for boardroom gender diversity) keeping in view its dynamic and complex character,[24] can be attained through differential strategies adopted for executive and non-executive roles, i.e., one strategy for non-executive positions, and another for executive ones. Considering the established variances in the objectives, roles and responsibilities, and eligibility conditions, within which the two sub-sets of the board function,[25] a “one size fits all” approach is less likely to work for the entire board.  This is more so, as the executive appointments are more individualistic and function-oriented, rather than being representative roles.[26]

What could be the strategy befitting each of the two sub-sets of the board?

While what could be a good strategy for the executive and the non-executive roles depends much upon the political, economic and cultural conditions[27] specific to the country where it is sought to be implemented,[28] a good starting point can be (i) mandatory quota for non-executive directors, alongside (ii) comply-or-explain targets for executive positions.

A review of Norway and UK reveals that, while there is no substantial lack of talent (both in terms of qualifications and board exposure) at the overall board level (inclusive of non-executive positions),[29] a gap exists in the executive pipeline. Most of it can be attributed to filtering-out or mid-level attrition resulting in poor female presence in the line or direct to executive positions of the corporate hierarchy, which serve as the preparatory or feeding ground for potential senior management recruits.[30]  In such a situation, imposing a mandatory quota would either result in large scale non-compliance, or recruitment of directors not suitable for the functions for which they are responsible.  This can have dangerous implications on the business, considering that the executive directors are the ones responsible for day-to-day management, decision-making and revenue generation.  Hence, mandatory quota is definitely not the way forward for executive positions.[31]

Rather, female participation in the executive positions ought to be driven by soft law approach,[32] aiming at generating an adequate pipeline through systemic reforms.  While voluntary targets may be an option, a more preferred strategy may be setting up targets on a comply-or-explain basis, i.e., companies would be directed by a minimum threshold of say 30% (acknowledging the critical mass) female executive directors, but not as a mandatory obligation.  If the company falls short of it, the reasons for such non-conformity must be disclosed. Thus, under this strategy, companies would be inspired to undertake systemic reforms while retaining the leverage to decide conformity based on their individual business specific conditions.  Any breach, i.e., omission to explain a non-conformity, would then be subject to regulatory intervention (thereby infusing some element of layered binding regulation).[33]

Considering that the pipeline for non-executive roles is more broad-based with potential candidates from within and outside the corporate domain, including professionals, academicians, representatives from the non-profit sectors, and industry experts,[34] mandatory quota could work well for such positions.  This is more so, as non-executive directors are not directly engaged in active revenue generating or management decisions, but are mostly responsible for monitoring or supervising the executive functions.  Hence, imposing a quota for this sub-set of the board (while the executive pipeline is developed) can be good way to start the diversity movement. Aside to enhancing the board experience or exposure among female directors, it would also increase the visibility of female role models which is likely to trigger greater interests among female board aspirants down the corporate ladder.  Such quota can be a great step to get the ball rolling, for an enduring movement of boardroom gender diversity that still has a long way to go.


[1] PH Schuck, ‘The Perceived Values of Diversity, Then and Now’ (2000-01) 22 Cardozo Law Review 1915.

[2] SA Ramirez, ‘A General Theory of Cultural Diversity’ (2001) 7 Michigan Journal of Race & Law 33. See also, RF Burch, ‘Worldview Diversity in the Boardroom: A Law and Social Equality Rationale’ (2010-11) 42 Loyola University Chicago Law Journal 585.

[3] ‘Beyond Independent Directors: A Functional Approach to Board Independence’ (2005-06) 119 Harvard Law Review 1553.

[4] LM Fairfax, ‘The Bottom Line on Board Diversity: A Cost-Benefit Analysis of the Business Rationales for Diversity on Corporate Boards’ (2005) 795 Wisconsin Law Review 798.

[5] DB Wilkins, ‘From ‘Separate is Inherently Unequal’ to ‘Diversity is Good for Business’: The Rise of Market-Based Diversity Arguments and the Fate of the Black Corporate Bar’ (2004) 117 Harvard Law Review 1548.

[6] M Huse & M Brogi, ‘Introduction’ in S Machold, M Huse, K Hansen & M Brogi (eds), Getting Women onto Corporate Boards: A Snowball starting in Norway (Edward Elgar Publishing Ltd 2013) 3.

[7] DC Langevoort, ‘Overcoming Resistance to Diversity in the Executive Suite: Grease, Grit and the Corporate Promotion Tournament’ (2004) 61 Wash & Lee Law Review 1615.

[8] AG King & JW Hawpe, ‘Gratz v Grutter: Lessons for Pursuing Diversity in the Workplace’ (2004) 29 Oklahoma City University Law Review 41.

[9] K Hansen & S Machold, ‘Concluding Remarks to Part V’ in S Machold, M Huse, K Hansen & M Brogi (eds), Getting Women onto Corporate Boards: A Snowball starting in Norway (Edward Elgar Publishing Ltd 2013) chapter 30, 211.

[10] M Teigen, ‘Gender Quotas for Corporate Boards in Norway’ (European University Institute, Department of Law, 2015) 8.

[11] Lord Davies, ‘Women on Boards’ (UK: The Department for Business, Innovation & Skills, February 2011) 8.

[12] Proposition 97 (Norwegian Ministry of Children and Family 2002-03).

[13] ‘UK Response to the European Commission Consultation on Gender Imbalance in Corporate Boards in the EU’ (The Government Equalities Office, department for Business Innovation and Skills, May 2012).

[14] A Masselot & A Maymont, ‘Balanced Representation between Men and Women in Business Law: The French ‘Quota’ System to the Test of EU Legislation’ (2014) 3(2) Centre for European Law and Legal Studies Online Paper Series (University of Leeds).

[15] ‘Sweden Rejects Quotas for Women on Boards of Listed Companies’ (The Guardian, 12 January 2017) <> accessed 2 April 2017.

[16] AA Dhir, ‘Contextualizing the Content Analysis Results: Norms, Expressive Law, and Reform Possibilities’ in AA Dhir, Challenging Boardroom Homogeneity – Corporate Law, Governance, and Diversity (Cambridge University Press 2015) Chapter 7, 240.

[17] AL Dempsey, Evolutions in Corporate Governance: Towards an Ethical Framework for Business Conduct (Greenleaf Publishing 2013) 83.

[18] M Teigen (n 10) 12.

[19] J Casson, ‘A Review of the Ethical Aspects of Corporate Governance Regulation and Guidance in the EU’ (Institute of Business Ethics Occasional Paper 8, June 2013) 13, 41.

[20] R Tomasic & F Akinbami, ‘Towards a new corporate governance after the global financial crisis’ (2011) 22(8) International Company and Commercial Law Review 237.

[21] Annual Accounts Act of 1995, chap 5, section 18. Section 4.1 of the Swedish Corporate Governance Code (Swedish Corporate Governance Board, 1 December 2016).

[22] Proposal for a Directive of the European Parliament and of the Council on ‘Improving the Gender Balance among Non-Executive Directors of Companies Listed on Stock Exchanges and Related Measures’ – COM(2012) 614 Final 2012/0299 (COD) (The European Commission, Brussels, 14 November 2012). See also, ‘Improving the gender balance in company boardrooms’ (European Commission June 2014).

[23] ‘Hampton-Alexander Review- FTSE Women Leaders, Improving gender balance in FTSE Leadership’ (KPMG November 2016).

[24] R Tomasic & F Akinbami (n 20).

[25] D Higgs, Report on Review of the Role and Effectiveness of Non-Executive Directors (UK: The Department of Trade and Industry January 2003); and ‘A review of corporate governance in UK banks and other financial industry entities’ (November 2009) (“Walker Review”).

[26] H Bjørkhaug & S Øyslebø Sørensen, ‘Feminism Without Gender? Arguments for Gender Quotas on Corporate Boards in Norway’ in F Engelstad & M Teigen (eds), Firms, Boards and Gender Quotas: Comparative Perspectives (Emerald 2012) Chapter 6, 201.

[27] S Machold & K Hansen, ‘Policy Approaches to Gender Diversity on Boards: An Introduction to Characteristics and Determinants’ in S Machold, M Huse, K Hansen & M Brogi (eds), Getting Women onto Corporate Boards: A Snowball starting in Norway (Edward Elgar Publishing Ltd. 2013) chapter 24, 168-169.  See also, A Klettner, ‘Corporate Governance Codes and Gender Diversity: Management-based Regulation in Action’ (2016) 39(2) UNSW Law Journal 715; and EE Clark, ‘Reflecting Inward and Looking Outward’ (2013) 2 Global Journal of Comparative Law 115.

[28] S Machold & K Hansen (n 27) 173.

[29] ‘Board representatives, by gender, age groups, level of education, size groups and economic activity’ (Statistics Norway, 1 January 2016); T Løyning, ‘Business Elites and power: board networks during the period from 2008-2013’ in M Teigen (ed), Gender Balance on Company Boards (Institute for Social Research Report 2015) 38. See also, ‘Improving the Gender Balance on British Boards- Women on Boards Review: Five Year Summary’ (KPMG, Cranfield University October 2015) 22, 23; ‘Patterns and Trends in UK Higher Education 2015’ (Higher Education Statistics Agency 2015) 23.

[30] S Halrynjo, M Teigen & M Nadim, ‘Women and Men in Senior Management. Ripple effects of Laws Requiring Gender Balance on Company Boards’ in M Teigen (ed), Gender Balance on Company Boards (Institute for Social Research Report 2015) 20. See also, Lord Davies (n 11) 16; ‘Gender Diversity in the Boardroom: Reach for the Top’ (CIPD Survey Report, February 2015) 13; and ‘Empowering Productivity: Harnessing the Talents of Women in Financial Services’ (HM Treasury, March 2016) 28 (“Gadhia Review”).

[31] A Rafiq, Member of Parliament (Parliamentary Debate 2002)- H Bjørkhaug & S Øyslebø Sørensen, ‘Feminism Without Gender? Arguments for Gender Quotas on Corporate Boards in Norway’ in F Engelstad & M Teigen (eds), Firms, Boards and Gender Quotas: Comparative Perspectives (Emerald 2012) Chapter 6, 185, 201.

[32] A Klettner, ‘Corporate Governance Regulation: Assessing the Effectiveness of Soft Law in relation to the Contemporary Role of the Board of Directors’ (University of Technology – Sydney 2014) 7.

[33] C Parker, ‘Meta-regulation: Legal Accountability for Corporate Social Responsibility’ in D McBarnet, A Voiculescu & T Campbell (eds), The New Corporate Accountability: Corporate Social Responsibility and the Law (Cambridge University Press 2007) 208.

[34] ‘Improving the Gender Balance on British Boards- Women on Boards Review: Five Year Summary’ (n 29) 20.

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The Legacy of B Lab: Italy’s Società Benefit

This blog entry is written by Joseph Liptrap, LLM by Research student at University of Edinburgh. It is the first post in a series of guest contributions from our postgraduate students and alumni, researching in different areas of commercial and corporate law and governance.

In a 2010 TEDx Talk, Jay Coen Gilbert, a co-founder of B Lab, spoke about the range of businesses which B Lab certifies – called Certified B-Corps – and admonished the existing US corporate law for not prioritising social and ecological sustainability.[1] Since the 2010 TEDx Talk, B Lab has been hard at work on two fronts.

First, the organisation has privately certified over 2,000 businesses in fifty countries.[2] The businesses are assessed against a set of social and ecological benchmarks to determine if their social responsibility claims are, in both form and substance, truthful.[3] Second, B Lab has also managed to convince the legislatures of thirty US states and the District of Columbia[4] to pass benefit corporation statutes, which, in the words of Jay Gilbert, are meant to “change the rules of the game.”[5] The benefit corporation statutes are modelled on the Model Benefit Corporation Legislation (MBCL), a model statute drafted by Bill Clark, a Drinker, Biddle & Reath LLP attorney, who worked in conjunction with B Lab on the project.[6] The statutes create a distinct corporate form, different from both the label B Lab offers to businesses and the traditional for-profit corporation. Benefit corporation statutes expressly mandate directors to balance the interests of both shareholders and other relevant non-shareholder constituencies in setting the corporate agenda.

The benefit corporation movement has recently extended into Europe. On 15 December 2015, the Italian Parliament, through a diverse coalition, created its own version of the US benefit corporation, known as Società Benefit. Italy thus became the first country outside the US to provide a statutory form of benefit corporation. Much like the efforts of B Lab, Nativa, a B Lab country partner for Italy, began the lobbying process for the bill which later became the Legge di Stabilita 2016 (hereafter Stability Law 2016). Eric Ezechieli, a co-founder of Nativa, noted that “[w]e are sure this event will accelerate the adoption of similar, much needed legislation in Europe and worldwide.”[7]

This post analyses the new Società Benefit statute through a comparison with the US approach. It highlights the common aspects and where the two jurisdictions diverge.

The US Approach

The MBCL defines a benefit corporation as a distinct corporate form available to for-profit corporations. It has three fundamental characteristics: purpose, accountability and transparency.

A benefit corporation must have purposes which go beyond simply maximising the wealth of shareholders. A benefit corporation must blend the pursuit of profit with a general public benefit and at least one specific public benefit. Regarding the general public benefit, a benefit corporation must create an overall material and positive social and ecological impact.[8] In addition, a benefit corporation may choose one or more specific public benefit purposes which are laid down in the MBCL. They include, for example: providing financially at risk individuals or communities with products and services; promoting economic opportunity for individuals or communities beyond job-creation in the course of business; and protecting or restoring the environment.[9] However, this is not a closed list and a benefit corporation may elect to choose a specific public benefit that is not explicitly itemised in the MBCL.

A benefit corporation’s social and ecological performance in pursuing the stated purposes must be assessed against a third-party standard. The organisation which develops and administers the assessment must be independent of a benefit corporation. It must also enjoy the requisite level of expertise necessary to assess a benefit corporation’s alleged social and ecological impact. The third-party standard must satisfy the legal requirements: it should be comprehensive, independently developed and administered, allow for a benefit corporation’s non-shareholder constituencies to have input and be transparent.[10] This third-party standard is only a modest infringement on the authority of shareholders, since, to become a benefit corporation, a business’ shareholders must vote in favour of the change, and alter the articles of incorporation so that the pursuit of a general public benefit and one or more specific public benefits becomes compulsory.[11]

The directors of a benefit corporation, relative to their counterparts in a traditional for-profit corporation, have increased responsibilities and added protection when they take decisions which aim to safeguard or further the interests of non-shareholder constituencies. Directors must consider how a benefit corporation’s behaviour will affect the entire range of corporate stakeholders, not just shareholders. The list of stakeholders is quite broad. To illustrate, the MBCL requires directors to consider the interests of seven non-shareholder constituencies: (i) employees of a benefit corporation, its subsidiaries and its suppliers; (ii) consumers; (iii) the communities in which a benefit corporation, its subsidiaries and its suppliers are located; (iv) the local and global environment; (v) the short-term and long-term interests of a benefit corporation; and (vii) the ability of a benefit corporation to fulfil its general public benefit purpose and any specific public benefit purpose it identifies as relevant in the articles of incorporation.[12] Therefore it follows that shareholders cannot lodge a derivative suit against a director of a benefit corporation for balancing profit maximisation with the pursuit of non-financial objectives. However, the MBCL also shields directors from personal liability against third-party suits. Section 301(c) provides that “a director is not personally liable for monetary damages for: (1) any action or inaction in the course of performing the duties of a director [of a benefit corporation]…or (2) failure of the benefit corporation to pursue or create general public benefit or specific public benefit.”[13] Shareholders can only instigate a benefit enforcement proceeding in the event that a director of a benefit corporation fails to either publish an annual benefit report on its website or otherwise provide copies upon demand.[14]

Aside from Delaware, a benefit corporation in any other US state jurisdiction has an obligation to publish an annual benefit report. The report articulates the actions taken to pursue a general public benefit and one or more specific public benefits. The report must clearly show the extent to which public benefit was created and how overall social and ecological performance are measured.

The Italian Approach

The approach taken in Italy is not a carbon copy of the US benefit corporation. The Società Benefit is the product of a different legal, social and historical background. For example, in Italy, and most other civil law jurisdictions, directors are not as hamstringed in considering the interests of non-shareholder constituencies. This means that shareholder primacy is not as pronounced relative to the US position. As such, the creation of the Società Benefit was not underpinned primarily by a motivation to give directors more flexibility to look after the interests of non-shareholder constituencies.[15] Rather, the advent of the Società Benefit is treated as an innovation which was necessary to bring Italian conceptions of corporate law into the twenty-first century: “[t]he aim of the new legislation is to promote a new business model in Italy to achieve an effective and innovative way to achieve the dual goal of profit and not-for-profit entrepreneurship, drawing strength from the benefits that characterise both types of business. Within this paradigm, the social dimension is no longer marginal, but a key component of the value chain. The concept of value production is extended to pursue long-term sustainability with every tool, including collaboration, sharing and relationship with the community. This process can open new opportunities in terms of the corporation’s ability to renew both itself and the social and economic fabric.”[16]

But there are similarities between the two approaches. In a general way, the Italian law has implemented the three fundamental characteristics. The Stability Law 2016 describes a Società Benefit as available to for-profit and low-profit businesses.[17] Registering as a Società Benefit entails the pursuit of economic activity through a blending of profit maximisation with the realisation of one or more common benefits.[18] A common benefit is a positive effect or the reduction of a negative effect on one or more of the following categories: people, communities, territories, the environment, cultural heritage, social activities, public or private organisations or associations and other stakeholders.[19] In this way, the list seems to be non-exhaustive through the wording of “and other stakeholders.” A Società Benefit must also overall operate in a responsible, sustainable and transparent way.[20] Additionally, a Società Benefit must alter the corporate purpose provision(s) of its constitution to specifically include a list of the common benefits which will be pursued.[21] Equally, the directors of a Società Benefit have an obligation to consider non-shareholder constituencies’ interests. The Stability Law 2016 identifies relevant non-shareholder constituencies as: employees, customers, suppliers, lenders, creditors, government and society.[22] Like the requirements of the MBCL, a Società Benefit must draft an annual benefit report.[23]

Significant Differences between Approaches

 The US and Italian approaches diverge in three main areas.

First, the constitution of a Società Benefit must specify the chosen common benefit(s) and how the directors aim to achieve them.[24] The MBCL does not require a benefit corporation to explicitly list a specific public benefit purpose in the articles of association.[25] It is submitted that this might better combat corporate greenwashing, since a Società Benefit must both overall operate in a responsible, sustainable and transparent way and pursue one or more explicit common benefits. A Società Benefit which does not pursue the stated common benefit(s) is subject to the Italian Consumer Code rules on misleading advertising which are policed by the Competition Authority.[26] The MBCL does not include any such enforcement mechanism, aside for shareholders’ power to bring a benefit enforcement proceeding.[27] The available reporting data is clear that US benefit corporations’ pursuit of a specific public benefit purpose has thus far been unsatisfactory,[28] and shareholders remain the only constituency with a right of action against the directors of a benefit corporation if they fail to do so.[29] This might suggest that, in the US, the social purpose aspect of a benefit corporation is still only secondary to profit maximisation.

Second, directors’ responsibilities are, at least prima facie, considerably more onerous in a Società Benefit. The MBCL frees directors from personal liability for an act or a failure to act as it relates to the creation and realisation of a general public benefit or specific public benefit.[30] In a Società Benefit, directors must actively protect non-shareholder constituencies’ interests. A Società Benefit’s constitution must also identify an “impact director” responsible for the pursuit and realisation of the common benefits. In the annual report, the impact director responsible must describe the specific objectives, methods and actions taken to pursue the common benefits, as well as any circumstances which might have prevented completion.[31] The annual report also requires the impact director responsible to identify how the specific objectives will be pursued in the following year.[32] A contravention of any of these requirements would constitute a breach of fiduciary duty under the existing corporate law which otherwise governs traditional for-profit businesses in Italy; but it would also make a director personally liable under the already discussed Italian Consumer Code penalties provided for misleading commercial advertising.[33]

Third, it was stated above that the Stability Law 2016 allows for-profit and low-profit businesses to become a Società Benefit. Low-Profit businesses, which include, for example, cooperatives, limited companies and mutual companies, have boundaries on profit distribution to shareholders. In the US, only traditional for-profit corporations can register as a benefit corporation. Consequently, the US approach excludes hybrids and quasi-charitable businesses from becoming a benefit corporation. By virtue of this distinction, the required “SB” or “Società Benefit” designation next to a business’ name might better be understood as a species of legal status, rather than an entirely different corporate form like its US counterpart.[34]

Final Thoughts

This post analysed the new Società Benefit statute through a comparison of the US and Italian approaches, and underscored the common aspects and where the two jurisdictions diverge. Italy’s benefit corporation experience is still very much in a period of infancy. At the time of writing this post, there is no empirical data to examine with regard to its market reception, and it would make more sense to return to an in-depth analysis after a suitable period of continuing development. Said another way, an attempt could be made to make a few informed estimates in relation to the potential successes or problems associated with the Società Benefit, but they would remain only that, informed estimates.

In this respect, two points should be noted. First, the Società Benefit statute does not overtly recognise a difference between the annual report external evaluation standard found in the legislative provisions and the benchmarks utilised by B Lab to measure social and ecological impact in the creation of certified B-Corps.[35] A Società Benefit must report annually, but must also, and perhaps more importantly, measure the impact generated by its activities using an external evaluation standard which is independent, credible and transparent.[36] The external evaluation standard must take into account specific “evaluation areas” which include corporate governance, the treatment of workers, the treatment of all other stakeholders and the environment.[37] Even though the B Lab Impact Assessment is thought to be independent, credible and transparent, it remains to be seen whether the Italian Parliament will establish a Società Benefit regulator to administer the impact evaluation, or otherwise create its own detailed criteria to be used in measuring a Società Benefit’s social and ecological impact. This could lead to a reduction of B Lab’s market reach in Italy, and potentially in other European jurisdictions if and when the MBCL is exported elsewhere. Moreover, it seems to be the case that the Global Reporting Initiative Sustainability Reporting Guidelines are also widely recognised as an international standard for sustainable reporting. Failing formal regulation, it will be interesting to see whether one reporting standard is favoured over the other, or what the effects will be within and across jurisdictions vis-à-vis mixed usage of both standards concurrently.

Second, the arrival of the Società Benefit should be acknowledged as a departure from the traditional European conception of social enterprise. There has historically been a stark contrast between US and European approaches to social enterprise. This has created complications for those scholars interested in finding out whether there is space for cross-border communication and learning in this thread of comparative corporate law.[38] It can be said, generally, that the US has characterised the benefit corporation as a part of the “fourth sector” of the economy.[39] The fourth sector is an area of the US economy in which profit maximisation and the pursuit of social or ecological purposes are blended together.[40] Conversely, European jurisdictions treat social enterprise as an alternative to the traditional charity.[41] The Società Benefit statute departs from the historical European narrative and converges closely with the US approach. The implications of this are still unknown, but the Società Benefit movement will have at least three questions to answer which will determine its ongoing and future market reception. First, will the Società Benefit be an attractive vehicle to social entrepreneurs who are accustomed to the European cooperative model of social enterprise? Second, will more socially-minded investors, not so worried about profit maximisation, be interested in a blended value business model which does not feature a profit distribution restriction? Third, a notable aspect of the EU’s “Europe 2020” strategy involves an increased focus on social entrepreneurship to further Single Market integration.[42] Particularly, the European Commission (EC) has focused on the conceivable potential of social cooperatives to create more jobs.[43] To this end, the EC has proposed the creation of both a harmonised regulatory regime[44] and a network of regional investment funds to broaden the use of social cooperatives from the national level to the regional level.[45] If these policy suggestions are implemented, will the Italian experience and the MBCL proliferate among other EU jurisdictions, and if so, will the EU respond positively to this development by expanding the Europe 2020 strategy to account for benefit corporations? If all three questions are not answered in the positive, it might be the case that the benefit corporation could be relegated to an inconsequential area of the economy.

Joseph Liptrap

LLM by Research, Edinburgh Law School


[1] TEDx Talk, “TEDx Philly – Jay Coen Gilbert – On Better Businesses” YouTube, at 9:40-10:20 (1 December 2010), [hereafter TEDx Philly].

[2] B Lab, Benefit Corporation,

[3] J. Haskall Murray, “Choose Your Own Master: Social Enterprise, Certifications, and Benefit Corporation Statutes” American University Business Law Review (2012), 21.

[4] B Lab, “State by State Status of Legislation” Benefit Corporation,

[5] TEDx Philly, at 10:17-10:18.

[6] B Lab, “Model Benefit Corporation Legislation” Benefit Corporation (16 September 2016), [hereafter MBCL].

[7] The B Corporation Blog, “Italian Parliament approves Benefit Corporation legal status” Benefit Corporation (22 December 2015),

[8] MBCL, §102.

[9] Ibid.

[10] B Lab has created a non-exhaustive list of third-party standards that, at least prima facie, meet the legal requirements for use by a statutory benefit corporation. See B Lab, “Third Party Standards for Benefit Corporations” Benefit Corporation (6 March 2012),

[11] MBCL, §201.

[12] Ibid, §301(a)(1)(i)-(vii).

[13] Ibid, §301(c).

[14] Ibid, §305.

[15] A principal claim made by the drafters of the Model Benefit Corporation Legislation was that, under the existing corporate law which otherwise governs traditional for-profit corporations in the US, directors do not have the flexibility to consider the interests of shareholders and non-shareholder constituencies equally. In this way, the benefit corporation was a needed innovation. See generally William W. Clark, Jr. & Larry Vranka, “White Paper: The Need and Rationale for the Benefit Corporation” (2013),10 (emphasising that the legal uncertainty surrounding directors’ ability to consider non-financial aspects under the existing corporate law has made it problematic for directors to feel legally secure).

[16] European Social Enterprise Law Association, “Benefit Corporation – the new B Corporation and “doing business” in Italy Today – February 2016” (26 February 2016),

[17] Gazzetta Ufficiale No. 302, Suppl. Ordinario No. 70 (30 December 2015), Law No. 208, Article 1, para 377. See also Italian Civil Code, Book V, Titles V, VI.

[18] Law No. 208, Article 1, para 380.

[19] Ibid, Article 1, paras 378(a), 376.

[20] Ibid, Article 1, para 376.

[21] Ibid, Article 1, paras 377, 379.

[22] Ibid, Article 1, para 378(b).

[23] Ibid, Article 1, para 382.

[24] Ibid, Article 1, para 379.

[25] MBCL, §201(b).

[26] Law No. 208, Article 1, para 384.

[27] MBCL, §305.

[28] See, for example, J. Haskall Murray, “An Early Report on Benefit Reports” 118 West Virginia Law Review (2015-2016), 25-56.

[29] Leo J. Strine, Jr., “Making it Easier for Directors to ‘Do the Right Thing’?” 4 Harvard Business Law Review (2014), 250-251.

[30] MBCL, §301.

[31] Law No. 208, Article, para 382(a).

[32] Ibid, Article 1, para 382(c).

[33] Ibid, Article 1, para 381.

[34] Ibid, Article 1, para 379.

[35] Ibid, Article 1, para 382(b).

[36] Ibid, Article 1, Annex 4.

[37] Ibid, Article 1, Annex 5.

[38] See generally, for example, Robert T. Esposito, “The Social Enterprise Revolution in Corporate Law: A Primer on Emerging Corporate Entities in Europe and the United States and the Case for the Benefit Corporation” 4 William & Mary Business Law Review (2012-2013) 639-714; Mystica M. Alexander, “A Comparative Look at International Approaches to Social Enterprise: Public Policy, Investment Structure, and Tax Incentives” 7 William & Mary Policy Review (2016) 1-34.

[39] Thomas Kelley, “Law and Choice of Entity on the Social Enterprise Frontier” 84 Tulane Law Review (2009), 358.

[40] Antony Bugg-Levine & Jed Emerson, Impact Investing: Transforming How We Make Money While Making a Difference (2011), 10-11 (the authors define blended value as “economic, social and environmental” returns that in “their natural integration, transform into a new, stronger and more nuanced organizational and capital structure.”).

[41] See generally Jacques Defourny & Marthe Nyssens, “Conceptions of Social Enterprise and Social Entrepreneurship in Europe and the United States: Converges and Divergences” 1 Journal of Social Entrepreneurship (2010) 32-53.

[42] Communication from the Commission, “Europe 2020: A Strategy for Smart, Sustainable and Inclusive Growth” COM (2010) 2020 (3 March 2010), 2, 14-15,

[43] Ibid, 15 (see also footnote 49 of the Communication).

[44] Communication from the Commission to the European Parliament, the Council, the Economic and Social Committee and the Committee of Regions, “Social Business Initiative: Creating a Favourable Climate for Social Enterprises, Key Stakeholders in the Social Economy and Innovation” COM (2011) 682 (25 October 2011), 10,

[45] Ibid, 6-8.

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Hard Brexit: company law and governance implications

In a previous post, I discussed the three main Brexit scenarios and their potential impact on the UK company law in general. This post will look in more detail at two corporate law and governance areas that are likely to be affected by a hard Brexit: corporate cross-border mobility and risk management.

The first step in the exit process is for the UK to notify the European Council of its intention to withdraw, as required by Article 50 of the Treaty on European Union (TEU).[1] An Article 50 notice is irrevocable and cannot be given conditionally, so the inevitable result of issuing it will be that the UK will leave the EU.[2] The EU Treaties will cease to apply to the UK from the date of entry into force of the withdrawal agreement or, failing that, two years after the UK submits its notification of intention to withdraw, unless the 27 remaining Member States unanimously decide to extend this period.

The impact of Brexit on the role of EU law in the UK is not entirely clear. On October 2, Prime Minister Theresa May announced plans to introduce a “Great Repeal Bill” in 2017. The proposed Bill will repeal the European Communities Act 1972, thus removing the supremacy of EU law over domestic law in case of conflict, as well as the binding force of the Court of Justice of the EU decisions. The Bill will incorporate into UK law the full body of EU law not already implemented. It is unclear, however, whether the Bill will transpose EU law into domestic law without amendments, or will include material changes that will come into force after Brexit. It is also unclear whether the transposed law will continue to be updated in line with the changes made in the EU, and whether the UK courts will continue to look to the CJEU for guidance on interpreting the transposed EU law.[3]

Until the completion of the Art 50 procedure, and irrespective of the Brexit model adopted, the UK will remain a Member State of the EU and will remain bound by EU law. The trajectory of the UK company law upon completion of the Article 50 procedure will depend on the negotiated terms. Although there is great uncertainty about the Brexit model and process, commentators seem to agree that a hard Brexit scenario, involving a complete split from the EU with limited or no participation in the single market, will have no significant effect on the UK corporate law in the short term, with a few exceptions. These exceptions include freedom of establishment and risk management and disclosure.

The freedom of establishment and corporate mobility

Art 54 of the Treaty for the Functioning of the European Union (TFEU) provides for the right of establishment for companies or firms formed in accordance with the law of a Member State and having their registered office, central administration or principal place of business within the Union. Such companies or firms enjoy the same rights conferred to natural persons by Art. 49 TFEU. In practice, taking advantage of the freedom of establishment is rendered more difficult by the differing legal traditions of the Member States as regards the conflict of laws rules that determine the applicable company law. Most continental EU jurisdictions (e.g. France, Germany) adopt the real seat theory, which determines the applicable company law based on the location of the company’s center of management and control. Under the incorporation theory (adopted, for example, in Scotland, England or the Netherlands), the applicable company law is determined by the jurisdiction where the company is incorporated. The jurisprudence of the CJEU has contributed significantly to reconciling the two doctrines, thus safeguarding the corporate mobility within the single market.[4] In light of the latest judicial developments, a host member state has an obligation to recognise a company duly incorporated in another member state, irrespective of the conflict of law rule of the host state. The host state may apply its own law only to the extent that this is justified in order to protect imperative requirements in the public interest.

In a hard Brexit scenario, the UK will acquire a third country status, which means that UK companies may no longer enjoy the same freedom of establishment as the other companies incorporated in the EU. The corporate mobility of businesses incorporated in the UK and seeking to establish themselves in the rest of the EU will be determined by the relevant private international rules concerning the law applicable to foreign legal persons. Following Brexit, companies registered in one of the UK jurisdictions but having their central administration in a real seat country (such as Germany) risk to be regarded as unincorporated associations, resulting in the removal of the corporate veil and of the limited liability of shareholders. This is likely to affect a significant number of foreign businesses incorporated in the UK. Following Centros, the UK attracted numerous foreign businesses, driven by lower incorporation costs, less restrictive minimum capital requirements and a flexible company law. [5] Consequently, it seems that the safest option for companies incorporated in the UK for legal arbitrage purposes, which have their central administration in real seat countries, is to convert into a company form of another member state prior to the implementation of Brexit.[6] At the same time, if UK chooses a hard Brexit it will no longer be bound by the CJEU decisions on freedom of establishment, and may implement restrictions on corporate mobility aimed at discouraging companies from fleeing the UK. Such measures may prevent some companies from migrating, but at the same time may reduce the attractiveness of UK as a place of incorporation.

Risk management and disclosure obligations

A hard Brexit will also require UK companies that have significant business relations with the rest of the EU to reassess their risk management and oversight systems, and to communicate to their relevant stakeholders the nature and extent of the impact of Brexit on their business.

The UK Corporate Governance Code 2016, which is applicable to companies with a Premium Listing at the London Stock Exchange on a comply or explain basis, stipulates certain obligations with respect to risk management and oversight. Listed companies must establish “a framework of prudent and effective controls which enables risk to be assessed and managed”,[7] ensure that their “financial controls and systems of risk management are robust and defensible”,[8]  and carry out “a robust assessment of the principal risks […], including those that would threaten its business model, future performance, solvency or liquidity”.[9] Depending on the company’s size, field of activity and the extent of its trading relations with the EU, the impact of Brexit on companies’ risk profile may vary. All large companies, however, are likely to be affected in the medium or long term by issues such as market volatility and the fluctuation in value of the British pound (with consequences on exchange rates, import and export costs); cash flow risks resulting from decreased consumer spending, loss of international or EU-based customers, suppliers or investors; or other exposures in the supply chain, resulting from solvency risks of trading partners. [10] Moreover, companies seeking to raise new capital through issuance of new debt or equity securities will have to disclose in their prospectus any material business risks resulting from Brexit, and the mechanisms that the company has in place to manage them. Some companies may even consider establishing a dedicated Brexit response committee, in charge of coordinating the companies’ risk management oversight systems across all areas of business.[11]

[1] Art. 50 (2) of TEU states that the Member State which decides to withdraw “shall notify the European Council of its intention. In the light of the guidelines provided by the European Council, the Union shall negotiate and conclude an agreement with that State, setting out the arrangements for its withdrawal, taking account of the framework for its future relationship with the Union.” Currently, the anticipated date of an Article 50 notice is March 2017. This date may be delayed by the pending Supreme Court litigation regarding the Government’s power to serve the notice without prior approval of the Parliament. The notice may also be deferred until after the French and the German elections of spring and autumn 2017, respectively.

[2] The irrevocable nature of an exit notification is subject of academic debate. It might be for the Court of Justice of the EU to decide whether Article 50 is revocable. See House of Commons Library, “Brexit Unknowns”, Briefing Paper No 7761, 9 November 2016, p. 6.

[3] House of Commons Library, “Brexit Unknowns”, Briefing Paper No. 7761, 9 November 2016, p 7.

[4] Daily Mail [1988] ECR 5483, Centros Ltd. v Erhvervs-og Selskabsstyrelsen, [1999] ECR I-1459, Überseering B.V v Nordic Construction Baumanagement GmbH [NCC], [2002] ECR I-9919, Inspire Art [2003] ECR I-10155, Cartesio [2008] ECR I-9641 and VALE Építési kft. [2012] EUECJ C-378/10.

[5] Marco Becht et al, “Where do Firms Incorporate? Deregulation and the Cost of Entry” (2008) 14 Journal of Corporate Finance 241.

[6] Such conversion may be achieved via a cross-border merger or through a cross-border conversion, in light of Cartesio and VALE. See Michael Schillig, “Corporate Law after Brexit”, available at

[7] Principle A.1

[8] Principle A.4

[9] Principle C.2

[10] For a more detailed review of these risks see “Slaughter and May, “Brexit Essentials: Navigating Uncharted Seas; A Practical Guide for Businesses” (2016)

[11] Ibid.

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