Directors' duties shouldn't be all about the shareholders

Company directors are subject to duties which include the requirement that a director must act in good faith and in the best interests of their company. They must exercise due care, diligence and skill, they should not cause their company to trade recklessly, and so on.

Increasingly, directors’ duties are receiving attention in the context of environmental, social and governance (ESG) considerations. For instance, in the United Kingdom a shareholder of Shell Plc, the petrochemical company, was unsuccessful in suing the board of directors for breach of duty based on the company’s failure to adopt a strategy consistent with the Paris Climate Agreement.

Aotearoa New Zealand is no exception to this trend of increased focus on directors’ duties in the context of these considerations. In August last year, the Companies (Directors’ Duties) Amendment Act 2023 received royal assent. This amendment altered the fundamental duty of a director to “act in good faith and in what the director believes to be the best interests of the company.” The amendment expanded the statutory statement of the duty, it added, “to avoid doubt, in considering the best interests of a company … a director may consider matters other than the maximisation of profit (for example, environmental, social, and governance matters).”

The purpose of this amendment was to clarify that the best interests of the company are not limited to a sole focus on maximising returns for current shareholders and to dispel uncertainty surrounding directors’ duties in cases where financial or profit-related considerations appear to conflict with ESG-related ones.

As such, Aotearoa New Zealand took a leading step in expressly permitting directors to consider ESG factors when making decisions in the best interests of their company. This step was a noticeable advance to other jurisdictions, such as the equivalent United Kingdom provision requiring directors to simply have regard to other considerations.

The leading step in Aotearoa New Zealand stating that directors could consider interests other than the maximisation of profit allows for a more enlightened view on value creation and long-termism. The express wording, although nuanced in some sense, was a significant step forward in signalling that profit maximisation should not necessarily be the only goal moving to enshrine stakeholder interests.

However, at barely a year old this amendment is now on the proverbial chopping block. The Government has announced plans to progress reforms of the Companies Act and related corporate governance legislation.

The rationale behind the reform is to update our more than 30-year-old Companies Act so it is fit for the modern business environment. These reforms include positive steps, such as a move towards digitisation for certain business documents that were previously paper based and the introduction of a unique identifier for company directors that will, among other things, help combat illegal business practices.

Included in the reform package, however, is a proposal to repeal the amendment. This repeal would see the removal of the avoidance of doubt provision, deleting the language that clarifies directors may consider matters other than the maximisation of profit, such as ESG factors, when they act in the best interests of the company.

It is concerning that the justification for the proposed repeal of this amendment received minimal discussion in the cabinet paper outlining the reform package. The sole reasoning offered is that “The law already allows directors to take into account ESG factors and this new subsection is therefore redundant.”

But herein lies the issue – just because the law, previously silent on this point, already permitted ESG consideration does not mean that this ability was clear, and that clarification was unwarranted.

Indeed, the impetus for the amendment stemmed from confusion in Parliament as to whether the expectation that Air New Zealand act as a ‘good corporate citizen’ was consistent with the duty of its directors to act in the best interests of the company. This debate indicates that clarification of the law was indeed necessary.

The amendment did not change the law, but it certainly helped to clarify it. In a world where the dominant paradigm is the maximisation of, often short-term, returns for current shareholders, express reference to the ability of directors to consider ESG factors reminds us that the interests of the company are broader.

To repeal the amendment now is problematic for two reasons, first as it is in its infancy the opportunity to appraise its impact will have been lost. Moreover, the introduction and rapid removal adds confusion to those who are subject to the duty. Secondly, it sends the wrong the signal.

At time of environmental crises and recent global economic challenge, this message could be interpreted by some as a return to American economist Milton Friedman’s doctrine that the social responsibility of business is the maximisation of profit.

In a reform package touted as ‘modernising’ the Companies Act, the proposal to remove express reference to director consideration of ESG factors is not a very modern one.