'Ideals of the Corporation and the Nexus of Contracts' by Ewan McGaughey in ((2015) 78(6)
Modern Law Review 1057
asks
What is 'the fundamental nature of the laws' that govern ‘public corporations in the United States and the United Kingdom’? This review article explores the 'nexus of contracts' view of the corporation, against its critique by Marc Moore in Corporate Governance in the Shadow of the State (2013). While the nexus of contracts theorists are usually thought to align the corporation to the private sphere, and seek to limit government interference, Moore suggests that corporations ought to be regarded as public. His analysis seeks to demonstrate that corporate laws of the United States and United Kingdom are essentially public. This article adds a further level, that the majority view of the corporation has been that it is a social institution. This stands in stark contrast to the nexus of contracts approach, whose roots lie in comparative German-American scholarship from the 1930s. In substance, this approach illegitimately privileges the claims to govern for a 'leadership' body of directors, asset managers, or banks, all of whom gain voice with 'other people's money'.
McGaughey comments
What is ‘the fundamental nature of the laws’ that govern ‘public corporations in the United States and the
United Kingdom’? To basically similar questions, Frank Easterbrook and Daniel Fischel once famously
answered, ‘Who cares?’ ‘Divergence between private and social interest,’ they wrote, ‘is rare’. So it did not
matter what goals large corporations pursued: profit, social welfare, or charity. It did not matter whether
corporations acted long-term or short-term, because a corporation was simply a set of ‘private
agreements’. The only reasons to not enforce private agreements were force, fraud, lack of mental
capacity, external effects on third parties, or maybe to alleviate poverty. But those goals were all achieved
in the general law of contract, or tort, or specific regulation outside corporate law. Corporate law itself
was just sub-category of contract law where, according to them, the aim is to enforce private bargains.
Often the express terms of the ‘corporate contract’ run out. Then, corporate law makes default rules for
what the parties ‘would have wanted’ (and only that) had they thought about it, and had they had no
transaction costs. But if you officiously enquired about the fundamental nature of corporate law, the testy
reply was just: ‘Who cares?’
Probably for this reason alone, but also for many others,
Corporate Governance in the Shadow of the
State
is an important contribution to literature on ideals of business regulation. Evidently, Moore
does care
about the nature of the company. The basic question he poses is
whether regulation of large listed
corporations is more ‘public law’ or ‘private law’. His case studies are the major ‘Anglo-American’ models,
represented by a Delaware ‘Inc’ (as modified by federal US regulation), and a UK ‘plc’. But the ‘private or
public’ debate is not an end in itself. It is a route to the normative question of how large corporate
structures ought to function: a profound question if, as Moore says, the ‘dominant academic paradigm’
does indeed ‘trickle down into the so-called ‘real world’.’
The Productivity Commission's
report on
Business Set-Up, Transfer and Closure features the following findings and recommendations, including a proposal for a ubiquitous governance identifier (the DIN) -
Regulatory arrangements around business set up
R 3.1
In principle, there should be a consistent approach to the taxation of business entities regardless of their ownership structure and size. The White Paper on the Reform of Australia’s Tax System should consider in particular:
• the taxation of trusts used primarily for business purposes
• the tax treatment of profits and losses across business types
• the feasibility of a simpler entity for small business that would combine features of existing structures.
R 3.2
Governments, particularly those at a state, territory and local level, should fully and promptly implement the leading practices and recommendations from the Commission’s previous reports on business regulation, including:
• Performance Benchmarking of Australian Business Regulation: Cost of Business Registrations (2008)
• Performance Benchmarking of Australian and New Zealand Business Regulation: Food Safety (2009)
• Performance Benchmarking of Australian Business Regulation: Occupational Health and Safety (2010)
• Performance Benchmarking of Australian Business Regulation: Planning, Zoning and Development Assessments (2011)
• Performance Benchmarking of Australian Business Regulation: Role of Local Government as Regulator (2012)
• Regulator Engagement with Small Business (2013).
R 3.3
Industry specific regulations that restrict business entry and the competitive operation of markets should be reviewed or removed, as recommended in the Harper Review. In reviewing their regulations, governments should assess whether they generate a net benefit to the community and whether they are the best way of achieving government objectives.
R 4.1
The extension of protections against unfair contract terms to small businesses should be reviewed within five years. The review should include examining if the provisions are being misused by businesses to avoid contractual obligations. To facilitate such a review, the Treasury should ensure that adequate data collection arrangements are in place.
R 4.2
Governments should increase the pace of reform to their land tenure arrangements, particularly focusing on those that may inhibit the establishment of new businesses and where overlapping types of tenure exist. Consideration should be given to the scope and duration of leases on Crown land, flexibility of land titles, native title determination processes and the accessibility of land tenure information.
Regulation of new and innovative business models
R 8.1
All jurisdictions should provide a legislative framework for fixed-term exemptions to specific regulatory requirements that deter entry by business models that do not fit within the existing regulatory framework. Such regulatory exemptions should be disallowable instruments and subject to public review prior to expiry.
Legislative safeguards should be put in place to ensure the regulatory exemption does not lead to a material increase in the risk of adverse outcomes to consumers, public health and safety, or the environment.
More generally, governments should:
• continually review industry specific regulatory approaches to assess whether they remain relevant and provide a net benefit to the community and are the most effective and efficient means by which objectives can be achieved
• ensure that regulation and regulators are flexible and adaptive in the face of evolving technologies and business models and properly funded for this task.
R 9.1
The Australian Securities and Investments Commission, the Australian Prudential Regulation Authority and the Reserve Bank of Australia should, with appropriate industry consultation, develop an enhanced graduated framework and determine appropriate thresholds and prudential requirements for stored value facilities. The framework should be published to provide clarity to new stored value systems.
There should also be an ongoing review process or indexation of thresholds to ensure that prudential regulation continues to be limited to ‘large and widely used’ facilities that pose a substantial risk to the wider payment system and/or consumers.
R 9.2
The Payment Systems (Regulation) Act 1998 (Cth) should be amended to require a transparent process for the assessment of applications to designate payment systems. The changes should include a formal application process; the publication of determinations and the reasons for each determination; and a review process through the Australian Competition Tribunal. The process should be similar to that for the National Access Regime set out in Part IIIA of the Competition and Consumer Act 2010 (Cth).
R 9.3
The Australian Government should amend the Anti-Money Laundering and Counter-Terrorism Financing Act 2006 (Cth) to enable the Australian Transaction Reports and Analysis Centre to regulate digital currency businesses for anti money laundering and counter terrorism financing purposes.
R 9.4
Digital currencies, such as Bitcoin, should be treated as a financial supply for GST purposes. This would require that the definition of money be updated to include digital currency in both Division 195 of the A New Tax System (Goods and Services Tax) Act 1999 (Cth) and relevant GST Regulations.
Governments and entrepreneurial ecosystems
R 10.1
The creation of entrepreneurial ecosystems cannot be driven by governments. Where a self-generated nascent ecosystem exists and there are demonstrable additional net social benefits arising from proposed government involvement in excess of those that will naturally occur from the ecosystem, limited support addressing specific ecosystem deficiencies could be justified. In order to minimise the risk that government support distorts incentives within the ecosystem or fails to result in net social benefits, assistance should:
• be supported by an analysis of the ecosystem which identifies deficiencies and evidence that addressing these will improve outcomes
• avoid targeting particular business sizes, models, technologies or sectors and focus on strengthening ecosystems, including networks and connections between all participants
• be modest relative to the scale of the market and conditional on measureable private sector ‘buy in’ that exceeds government contributions
• have a clear exit strategy established at the outset
• be delivered by people with local knowledge and cross-sectoral skills
• incorporate frequent monitoring against clear objectives, and be subject to independent and transparent evaluation.
All Australian governments should, within three years, review existing assistance directed at the set up of new businesses to ensure programs — including those for start-ups, business incubators, accelerators and hubs — are consistent with the above approach. These reviews should not be conducted by agencies responsible for implementing the programs and should be published. Those programs that are not consistent with the above principles should be wound up.
R 10.2
To support an entrepreneurial culture, and build future skills and capacity:
• governments should use positive language to describe start up success and failure that is associated with ‘trying again’ and ‘learning by doing’
• state and territory governments should review the ways in which schools interact with the business and entrepreneurial community and any barriers to this happening
• governments should not deny access to any assistance programs solely because an entrepreneur has had an unsuccessful business venture in the past
• universities should review the length and structure of their degrees to accommodate practical entrepreneurial experience of students
• universities should review their recruitment, performance assessment and promotion policies to ensure an increased focus on entrepreneurial capabilities and business experience.
R 10.3
The Australian Government should commission a comprehensive and independent inquiry into the Australian innovation system, which is to include among other aspects:
• the business collaboration, intellectual property management and research commercialisation practices of the public sector, including universities and publicly-funded research institutions
• business incubators, accelerators and hubs in universities and publicly-funded research institutions
• the public funding and provision of ‘transformative research’, including that by universities and publicly-funded research institutions.
R 10.4
To support access by start ups and other businesses to publicly-funded data, governments should publicly release their data in formats that ensure privacy and confidentiality requirements are met.
R 10.5
Universities should review their management of alumni networks with a view to maintaining links with alumni and enhancing the contribution of successful entrepreneurs among their alumni back into their universities and local entrepreneurial ecosystems.
Access to finance
5.1
Access to finance does not represent a barrier for most new businesses. Only a minority of new businesses seek finances beyond the financial resources of the owners, and most that do seek external finance obtain it.
R 6.1
The Australian Government should introduce arrangements to facilitate crowd-sourced equity funding based on:
• a single corporate form (the ‘exempt public company’) — as proposed by the Corporations and Markets Advisory Committee (CAMAC) in its Crowd sourced equity funding report — with the ability to revert to a proprietary company where the entity meets the legislative requirements following the exemption
• the regulation of intermediaries as proposed by CAMAC, without the proposed restrictions on intermediaries having a financial interest in an issuer or on their fee structures, but with full disclosure of intermediary interests
• a regulatory framework to protect investors, including cooling off periods, acknowledgment of risk and a cap on those investors that are not ‘sophisticated’ or ‘professional’ investors as defined under the Corporations Act 2001 (Cth)
• an issuer cap of $5 million per year (that excludes funds raised from sophisticated and professional investors) and an investor cap of $25 000 per year and $10 000 per issuer as proposed in the Treasury consultation paper, but recognising that such caps are arbitrary and should be adjusted in light of experience with the operation of crowd-sourced equity funding.
R 6.2
The effectiveness of employee share schemes and the costs and benefits to the broader community of their concessional taxation treatment should be reviewed by 30 June 2020. The review should consider:
• the use of additional tax concessions for small start-up companies and the eligibility requirements to access these tax concessions
• the removal of the cessation of employment as a deferred taxing point for equity or rights granted by an employer.
R 6.3
The Australian Government should not require superannuation fund trustees to allocate funds to particular asset classes or investments, including venture capital or small businesses.
R 6.4
The Australian Government’s tax incentive scheme — the Venture Capital Limited Partnerships — to increase the supply of venture capital, should be closed to new registrations while the Early Stage Venture Capital Limited Partnership should continue.
Both the Early Stage Venture Capital Limited Partnership arrangements and the ongoing Venture Capital Limited Partnerships should be subject to an independent evaluation in 2017 as to the costs and benefits of these arrangements for the overall community. The evaluation should also consider extending the provision of capital gains tax exemptions for individual investors.
If the Government intends to continue to provide tax incentives for venture capital following this evaluation, future arrangements should be:
• back-ended to reward success and avoid tax minimisation
• limited to seed stage or early stage venture capital, where there are likely to be greater difficulties in accessing capital
• subject to an independent evaluation as to the overall costs and benefits after the scheme has been in place for an adequate period.
7.1
While some new businesses are unable to obtain debt financing, there is no evidence to suggest that there are regulatory impediments restricting the ability of new businesses to access debt in Australia that require a policy response.
That some businesses rely on credit cards as a significant source of debt finance can be viewed as evidence of a funding gap. However, the existence of a gap in the traditional financing market does not in itself indicate a need for government involvement and new lending models, such as peer to peer lending, represent innovations that could go some way to filling the gap.
R 7.1
As identified in the 2014 Financial System Inquiry, the Australian Government should undertake a review of the participation of the lending industry in comprehensive credit reporting in 2017 with a view to determining whether participation should be mandated. The review should also consider extension of reporting to include the comprehensive credit history of businesses.
R 7.2
Australian governments should not pursue credit guarantee schemes as a means of enhancing the ability of new businesses to access debt finance.
R 7.3
Governments should cease programs that offer concessional loans to new businesses on the basis of their location or industry.
For concessional loan programs provided to new businesses as a means of addressing social disadvantage, clear and persistent economy-wide net social and economic benefits should be able to be demonstrated. In the absence of these benefits, these programs should also cease.
Voluntary business exits
R 11.1
In line with recommendations from the Harper Review, the Australian Competition and Consumer Commission should combine the formal merger clearance process and the merger authorisation process, and remove unnecessary restrictions and requirements to improve the efficiency and effectiveness of business transfer processes.
R 11.2
The current small business capital gains tax concessions should be rationalised. The White Paper on the Reform of Australia’s Tax System should consider:
• the recommendations of the Henry Tax Review relating to small business capital gains tax relief with a view to the effectiveness of implementation, avoidance of unintended consequences and ensuring consistency with broader tax policy
• the relationship between small business capital gains tax relief and retirement incomes policy for small business owners.
R 11.3
Governments should confine their involvement in business succession planning to raising the importance of this issue publicly, ensuring the provision of high quality, accessible information on relevant regulatory issues, and ensuring government processes are as timely and inexpensive as possible with appropriate cost recovery.
Business restructuring
13.1
The current culture, incentives and legal framework around voluntary administration inhibit its effectiveness as a genuine restructuring mechanism.
13.2
While some specific reforms are warranted, wholesale change to the Australian insolvency system is not justified.
In particular, several factors — including the costs of the process, the role of courts and changes to the roles of creditors and debtors — indicate that the overall costs are disproportionate to any likely gains from a wholesale adoption of chapter 11 of the United States Bankruptcy Code.
R 14.1
The Corporations Act 2001 (Cth) should be amended such that, for an administration to continue, within one month of appointment the administrator must certify they have reasonable grounds to believe that the company (or a large component entity of it that may emerge following a restructure) is capable of being a viable business.
If the administrator is unable to certify this, they should be under a duty (enforceable by the Australian Securities and Investments Commission) to convert the administration into a liquidation.
R 14.2
The Corporations Act 2001 (Cth) should be amended to allow for a safe harbour defence to insolvent trading. The defence would only be available when:
• directors of a company have made, and documented, a conscious decision to appoint a safe harbour adviser with a view to constructing a plan to turnaround the company
• the adviser was presented with proper books and records upon appointment, and can certify that the company was solvent at the time of appointment
• the adviser is registered and has at least 5 years’ experience as an insolvency and turnaround practitioner
• directors are able to demonstrate that they took all reasonable steps to pursue restructuring
• the advice must be proximate to a specific circumstance of financial difficulty, and subject to general anti-avoidance provisions to prevent repeated use of safe harbour within a short period.
The defence would not attach to any particular decision and instead would cover the running of the business and any restructuring actions from the time of appointment until the conclusion of (reasonable) implementation of the advice.
• If the adviser forms the opinion that restructure into any form of viable business or businesses is not possible, they are under a duty to terminate the safe harbour period and advise the directors that a formal insolvency process should commence.
The safe harbour adviser may only be appointed in a subsequent insolvency process with leave of the court.
R 14.3
Provision should be made in the Corporations Act 2001 (Cth) for ‘pre positioned’ sales.
Where no related parties are involved, there should be a presumption of sale such that administrators can overturn sales only if they can prove that the sale was not for reasonable market value (in accordance with s420A of the Act), or if it would unduly impinge on the performance of the administrators’ duties. Administrators or liquidators should be allowed to rely on the pre-appointment sale process as evidence.
If sales are to related parties, there is no presumption favouring sale and the administrator’s or liquidator’s examination of the sale process continues as normal. The administrator’s review should include checks that the sale has met existing regulatory requirements for related party transactions.
In both cases, s439A of the Act should be amended to include requirements to disclose information of the sale to creditors.
Where the sale (whether given effect before or after the insolvency appointment) is the result of advice received under the safe harbour defence, that defence should also apply against voidable transactions actions from administrators or liquidators.
R 14.4
The small liquidation process detailed in recommendation 15.1 should include provision for small pre-positioned sales, consistent with recommendation 14.3.
In the context of small businesses, the requirements of s420A of the Corporations Act 2001 (Cth), and investigations of related parties, should be applied proportionately in relation to determining the relevant market for the sale, advertising effort and reasonable price.
R 14.5
The Corporations Act 2001 (Cth) should be amended such that ipso facto clauses that have the purpose of allowing termination of contracts solely due to an insolvency event are unenforceable if the company is in voluntary administration or the process of forming a scheme of arrangement. Amending legislation should make clear that the party experiencing the insolvency is in no way absolved of any other contractual obligations.
External administrators should be given the ability to apply to the Court to require continued performance of a contract where the Court is satisfied that the supplier is attempting to avoid this moratorium, and that the continuation of the contract is in the best interests of the creditors as a whole.
In circumstances where this moratorium could lead to undue hardship, suppliers should be able to apply to the Court for an order to terminate the contract.
R 14.6
The Corporations Act 2001 (Cth) should be amended to create a moratorium on creditor enforcement actions during the formation of schemes of arrangement. This should be aligned with the approach used in voluntary administration.
Courts should also be given the explicit power to lift all or part of the moratorium in circumstances where its application would lead to unjust outcomes.
Corporate insolvency
R 15.1
The Corporations Act 2001 (Cth) should be amended to provide for a simplified ‘small liquidation’ process.
• This would only be available for those companies with liabilities to unrelated parties of less than $250 000.
• To access small liquidations, directors should be required to lodge a petition to the Australian Securities and Investments Commission (ASIC) and verify that their books and records are accurate.
• The primary role of the liquidator would be to ascertain the funds available to a reasonable extent, given a reduced timeframe. Requirements for meetings, reporting and investigations should be reduced accordingly.
• The pursuit of unfair preference claims should be limited to those within three months of insolvency and of material amounts. The duty to pursue unfair preferences should be explicitly removed unless there is a clear net benefit and it will not impede conclusion of the liquidation.
• Creditors would be able to opt out of the process and into a standard creditors’ voluntary liquidation, and ASIC would be able to initiate further investigation if it has concerns of illegality.
Liquidators for these processes would be drawn from a panel of providers selected by tender to ASIC. Panel membership would be for a period of up to five years, with ASIC able to conduct tenders at regular intervals to ensure that demand can be met.
ASIC should be empowered to hear complaints of practitioner misconduct and if the complaint is upheld, replace the liquidator. ASIC should be enabled to take disciplinary action, if warranted, against the discharged liquidator, including the suspension from participation in the panel or revocation of their registration.
R 15.2
In instances of small liquidations where a liquidator is unable to recover funds to cover their own fee, and where the Australian Securities and Investments Commission (ASIC), is satisfied that the activities are not excessive, the liquidator should be able to apply for the balance of their fees to be paid through ASIC.
• The existing Assetless Administration Fund should be renamed the Public Interest Administration Fund and its objectives and funding modified to reflect this new function.
• To the extent that this requires additional funding, it should be raised by increasing the annual review fee for company renewals.
Funding should also be available from the Public Interest Administration Fund in instances where ASIC initiates further investigations beyond those required by the small liquidation process.
R 15.3
The Australian Government should instigate an independent review, to report by 30 June 2017, of the relevant parts of the Corporations Act 2001 (Cth), and the practices of receivers in the market, with a view to ensuring that:
• The primary role of the receiver should be to protect the value of the property that is the subject of the secured credit.
• The focus should be on the performance of individual loans. The appointment of receivers should not be used as a mechanism to manage lenders’ portfolios.
• If there is a substantial group of unsecured creditors affected by the receivership, the receiver should have consideration of the impact of their actions upon the overall wellbeing or insolvency of the company.
R 15.4
The Corporations Act 2001 (Cth) (the Act) should be amended such that where the stakeholders in a receivership (that is, unsecured creditors including employees and government authorities such as the Australian Taxation Office) form a committee of inspection and notify the receiver, that committee should have the right to basic information regarding the receivership process. This should include, but not be limited to:
• a description of the proposed process
• the results of the sale process
• details of proposed and actual costs and disbursements.
Receivers should be compelled to have regard to the views of the committee in a similar manner to liquidators under s479 of the Act. Considerations directly relating to protecting the value of the security should override any views of the committee.
The committee should have standing under s425 of the Act to apply to the Court to seek relief in relation to the fees (but not actions) of the receiver.
R 15.5
The operation of the Fair Entitlements Guarantee, in its entirety, should be reviewed in 2021 in order to monitor any moral hazard issues, potential abuse of the scheme and continued effectiveness of recovery arrangements. As part of this, consideration should be given to amendments to the Corporations Act 2001 (Cth) to allow the Commonwealth to play a more active role as a creditor.
R 15.6
In addition to existing requirements for directors, section 117 of the Corporations Act 2001 (Cth) should be amended to require that, at the time of company registration, directors must also provide a Director Identity Number (DIN).
A DIN should be obtained from the Australian Securities and Investments Commission (ASIC) via an online form at the time of an individual’s first directorship. In order to obtain a DIN individuals should be required to provide identity proof (based on the personal identification requirements for opening a bank account), and verify that they have read brief materials on directors’ legal responsibilities provided as part of the online registration.
For existing companies, directors should be required to obtain a DIN. The DINs should be provided to ASIC at the annual review date for the company, as a change to company details. To enforce these requirements, ASIC should be empowered under section 205E of the Corporations Act 2001 (Cth) to ask a person who is a director to provide their DIN.
There should be no lessening of the existing recording of, and means of accessing, director information.
R 15.7
Following the implementation of the Commission’s proposed reforms to the insolvency system, the Australian Securities and Investments Commission (ASIC) should produce a Regulatory Guide targeted at small businesses facing financial difficulty.
The guide should cover legitimate restructure and liquidation options and responsibilities, with a focus on the new processes designed to assist small businesses.
ASIC should consult with the Australian Small Business Commissioner (or its successor), representatives of small business and the insolvency and legal professions in producing the guide.
Personal insolvency
R 12.1
The Bankruptcy Act 1966 (Cth) should be amended so that, where no offence has occurred, a bankrupt is automatically discharged after one year. Specifically, this should apply to restrictions relating to overseas travel, holding an office under the Corporations Act 2001 (Cth), employment within certain professions and access to personal finance.
The trustee, and the courts, should retain the power to extend the time until the bankrupt is discharged for a period of up to eight years if there are concerns regarding the bankrupt’s conduct. Any extensions should be recorded on the National Personal Insolvency Index.
The Australian Government should work with other governments and professional bodies to ensure that any regulations or other arrangements restricting the employment of bankrupts beyond the period of bankruptcy are justified according to specific and efficient policy objectives.
R 12.2
The obligation of bankrupts to make excess income contributions to the trustee should remain for three years. The period of excess income contributions can be extended at the discretion of the trustee to up to eight years. If the period of bankruptcy is extended beyond three years, then excess income contributions should be required until discharge.
