Regular readers will know our views on the limitations of the “Shareholder Primacy” model – directors having to prefer the interests of shareholders above all else means that, with the best will in the world, they can’t really take into account issues that might conflict with shareholder value.
We like the idea of adding a new corporate vehicle structure – a benefit corporation or similar – that would allow directors to defensibly take into account external stakeholders in their decision-making – communities, environments, employees. This vehicle would exist in parallel to existing company structures and investors into this type of structure would know exactly what they were getting in for. A benefit corporation wouldn’t necessarily make directors prefer these extraneous interests, but it would mean that shareholders couldn’t successfully bring a class action if directors made a key business decision on the basis of these types of concerns.
Smoke signals: The perfect case study
We often wonder though how this would actually work in practice. But as they say, ask and you shall receive. Like a perfect (or terrifying) university case-study exam question – along come the plumes of smoke from the Liddell Power Station brouhaha.
The Liddell saga has it all from a complex corporate governance perspective:
- an owner (AGL) that wants to wind it down by 2022;
- a competitor (Alinta) that reportedly wants to buy it and keep it open beyond 2022;
- genuinely held environmental concerns held by people who want it shut;
- genuinely held community and employment concerns held by people who want it kept open; and
- politicians weighing in from all angles.
The latest chapter had the Energy Minister, Josh Frydenberg, dishing out legal advice for the board of AGL, claiming that the directors have “a fiduciary duty to properly consider the offer from Alinta”. Mr Frydenberg – a corporate lawyer in his past life – is right in the general sense, under Australia’s current legal framework AGL’s directors are duty-bound to act in the best interests of the company (shareholders) and thoughtlessly rejecting a genuine and compelling offer would risk breaching this duty if that deal is the best outcome for shareholders. For what it’s worth, it appears AGL’s directors have formed their view based on an economic analysis of the cost of keeping Liddell open and in consideration of the value and likelihood of any sale transaction - resolving that the best outcome for investors is shutting Liddell down and repurposing the site. This is entirely in keeping with their duties under Australian corporate law and is the only option for directors until the legal framework changes.
Prime Minister Turnbull then weighed in, getting even more expansive on directors’ duties, telling AGL to “do the right thing by their customers, by the community, and I think by their own shareholders, and either keep this plant going for another four or five years or sell it to somebody who is prepared to do so”.
Shareholders v stakeholders
It’s the Prime Minister’s guidance that draws out an ideological debate that has been contested for years (or months in the case of this blog) – for whom are corporations run, and to whom do the directors of corporations owe a fiduciary duty? Shareholders or a broader range of stakeholders?
In Australia, directors must act in good faith in the best interests of the company as a whole. Practice suggests that this is just the interests of existing shareholders (ie, the “Shareholder Primacy” view of the world). You can see the university corporate law short answer exam questions already:
Can the directors of AGL consider the needs of the local community that rely on the Liddell plant for jobs? Can they consider the desire of the Australian manufacturing industry for reliable and low cost power? Can they consider the impact of the power station on the endangered Hunter Valley Glossy Black-Cockatoo? Or the plant’s contribution to climate change?
The pass-mark answer – sort of….but not really.
Former High Court Justice, Dyson Heydon, provided the High Distinction response in 1987. In comparing Australia’s legal framework to the US’ he noted:
“Our law [Australia’s] perhaps goes less far than American in permitting consideration of such abstract matters as the national economic interest, the wishes of the government or the advancement of the environment. But if those matters had a link with the interests of the company they could be considered.”
Building on this, in a 2016 legal opinion, Mr Noel Hutley SC argued that today, directors can, and indeed should, consider climate change risks – to the extent that those risks intersect with the interests of the company. This qualification is where it starts to seem a bit theoretical to us. As Hutley himself points out, merely listing the links in the chain of causation reveals the difficulty with relying on this approach: a corporation takes a particular course of action, this specifically impacts the environment (perhaps contributing to a stronger La Nina pattern), the resulting climate change detrimentally and demonstrably affects the corporation’s interests – all in the investment lifetime of its shareholders? It seems like it would be hard to prove such a proposition in the face of hostile activist shareholders arguing based on simple evidence that say paying higher prices for more sustainable inputs hurt the bottom line in the here-and-now. Even in the Liddell situation, a decision to maintain or shut down a coal-fired power plant (an environmental red flag if there ever was one), the chances of establishing a direct nexus between specific environmental harm caused and a diminution of shareholder value feels remote at best – particularly compared to the relatively simple economic analysis that goes into a buy/sell or refit/shutdown decisions.
Directors can of course arrive at a decision that acting in an environmentally-friendly way is in the best interests of the company – for example, because it will result in additional consumers vis-à-vis the counterfactual (eg, the “green consumer” trend).
So where does this get us with the position facing the AGL board today? Well, to the extent that climate change risks, the steady supply of power to the local community or the future of the Glossy Black-Cockatoo directly intersect with the interests of AGL shareholders (in their capacity as shareholders), the board can weigh them up when making decisions. Similarly, should acting in-line with these extraneous interests have a net positive benefit for the company (eg, additional customers), directors may find that such an action is in the best interests of the company. The practical difficulties with this formulation is that only rarely (maybe only theoretically) will the financial interests of company shareholders and these extraneous interests intersect.
What if AGL was a benefit corporation?
This position is juxtaposed with the benefit corporation. The benefit corporation adopts a “stakeholder primacy” view of the world – where extraneous interests (employees, community, environment etc.) are the interest of the company. Directors of benefit corporations do not have to determine whether climate change risks intersect with the interests of the company, rather they will often be duty-bound to consider these interests as they fall within the scope of the interests of the company as prescribed in its constitution.
This is why Liddell is such a fascinating case study – a benefit corporation structure would allow or even require the directors of AGL to explicitly take into account the impact the power station is having on the environment, which would not support the government’s case to keep it open. But, on the other hand, the widening of the aperture of the duties owed by directors of benefit corporations would allow or even require the directors of AGL to take into account the other impacts on the community of closure – precisely the line that Turnbull is pushing presently with limited effect given our current corporate structure.
The matrix below shows the “abstract matters” that surround the Liddell saga, and maps how these matters might be viewed by directors of standard corporations and benefit corporations (where the framework allows (but not obliges) directors to consider stakeholder interests). What is clear is that the broadening of the scope of the benefit corporation cuts both ways – it would embolden environmental activists hoping to shut down Liddell, whilst also giving credence to those imploring AGL to consider the community and consumers. The analysis below is blunt and crass for dramatic effect…
You can’t please all of the people all of the time
So how would the Liddell saga play out in a benefit corporation? It’s actually really hard to say. It would certainly be far more open for the directors to take into account the “abstract matters” at play – which might be a better or worse thing depending on your perspective and what they decide.
Applying current jurisprudence to this broader framework gets us here: directors’ jobs are to apply their expertise and weigh the various considerations when making decisions. And, as the Federal Court held last year in the Brickworks case, where directors, acting in good faith, arrive at a decision based on the weighing of relevant and legitimate considerations, the courts will be reluctant to step in and set aside such a decision. A benefit corporation would broaden the universe of potentially relevant and legitimate considerations for directors – we just don’t know where that would take us.
Perhaps the real lesson in this case-study is that the legal framework sets the boundaries for the interests that a directors may and should consider. The broader that framework is, the more likely that conflicts between those interests will arise. In such circumstances, it is for directors, acting in good faith, to use their expertise to arrive at a decision. Even with a broader remit, it’s still going to be the case that, to borrow from Abraham Lincoln (who borrowed from the poet John Lydgate), “you can’t please all of the people all of the time”.