Companies Act 2006 (3)

This article, the final in a series that has assessed the principal changes introduced by the Companies Act 2006 ('the 2006 Act'), focuses on the new provisions concerning auditors' liability, reporting obligations, electronic communications and the Panel on Takeovers and Mergers. It will conclude by considering when the 2006 Act enters into force.

Auditors' liability

Part 16 of the 2006 Act contains detailed provisions relating to auditors' liability. The attention-grabbing introduction of liability limitation agreements (LLAs) is tempered by provisions that: define the permissible scope of LLAs; prohibit auditors from excluding their liability or obtaining an indemnity from a company where they have acted improperly; and impose criminal sanctions for knowingly or recklessly inserting misleading details in an auditor's report.

Part 16 begins by declaring void any exemption of an auditor's liability or any indemnity, direct or indirect, granted by a company to an auditor in respect of the latter's negligence, default, or breach of duty or trust in conducting an audit (s 532). However, a company can indemnify an auditor against costs incurred when the auditor successfully defends civil or criminal proceedings or makes a successful application for relief under s 1157 of the 2006 Act on the basis that it has acted honestly, reasonably and ought in all the circumstances to be relieved from liability (s 533).

LLAs

Section 534 provides that an LLA is an agreement that purports to 'limit the amount of liability owed to a company by its auditor in respect of any negligence, default, breach of duty or breach of trust, occurring in the course of the audit of accounts, of which the auditor may be guilty in relation to the company'. Crucially, s 537(1) provides that an LLA 'will not be effective to limit the auditor's liability to less than such amount as is fair and reasonable in all the circumstances of the case'. In determining what is fair and reasonable, the court must have regard to, in particular, the auditor's responsibilities under Part 16 of the 2006 Act, the nature and purpose of the auditor's contractual obligations to the company, and the professional standards expected of him. It is expressly stipulated that 'matters arising after the loss and damage in question has been incurred or matters (whenever arising) affecting the possibility of recovering compensation from other persons liable in respect of the same loss or damage' should not be taken into account when ascertaining what is fair and reasonable (s 537(3)).

The 2006 Act places further restrictions on the permissible scope of an LLA: LLAs can only cover one financial year (s 535(1)); and they must be authorised by a company's members (s 536). Furthermore, the 2006 Act anticipates that a company which has entered into an LLA will have to disclose various details concerning the agreement in accordance with regulations to be passed by the Secretary of State (s 538).

Auditors will no doubt welcome the introduction of the LLA. Nevertheless, it is envisaged that the interpretation and application of the 'fair and reasonable' test will generate a considerable body of case law in the 2006 Act's infancy, meaning that auditors will be unable to place great reliance on the terms of any particular LLA for some time to come.

Auditors will be less enthusiastic about the spectre of criminal liability introduced by the 2006 Act. A new offence, triable either way, of recklessly or knowingly including misleading, false or deceptive details in audit reports is introduced by s 507. Furthermore, under s 505 every copy of the auditor's report must state the name of the auditor and, if the auditor is a firm, the name of the person who signed the report as senior statutory auditor. In exceptional circumstances (risk of violence or intimidation), confidentiality of the auditor may be preserved (see s 506); otherwise failure to comply with s 505 results in criminal liability for the company and every officer in default (s 505(3) and (4)).

Directors' reports

Chapter 5 of Part 16 of the 2006 Act deals with the report that must be produced by the directors of all companies. It essentially reproduces the heavily amended requirements of Part 7 of the Companies Act 1985 (the 1985 Act), although it is noteworthy that explicit provision is made for the Secretary of State to make regulations as to matters that must be contained in directors' reports (s 416(4)).

Importantly, unless a company is subject to the small companies' regime, a directors' report must contain a business review. Accordingly, directors of all companies that do not satisfy two of the following three tests will be required to include a business review in their reports: (a) a turnover of not more than £5.6m; (b) a 'balance sheet total' of not more than £2.8m; and (c) not more than 50 employees. The business review is not new, already being required in relation to some companies by s 234ZZB of the 1985 Act. Section 417 of the 2006 Act does however clarify and, in part, expand the matters that it must contain.

Section 417(2) provides that the purpose of the business review is to 'inform members of the company and help them assess how the directors have performed their duty under s 172 (duty to promote the success of the company)'. This is a sensible new explanatory provision that links the business review with the new statutory statement of directors' duties. Sections 417(3) and (4) set out well known requirements of the business review, namely, that it must contain a fair review of the company's business and a description of the principal risks and uncertainty that it faces (subs (3)), together with a 'balanced and comprehensive analysis', consistent with the size and complexity of a company's business, of the company's development and performance during the relevant financial year and its business position at the year end (subs (4)).

For quoted companies the review must also contain, to the extent necessary for a proper understanding of the company's position, information about: environmental matters; the company's employees; social and community issues; and, perhaps most controversially, 'information about persons with whom the company has contractual or other arrangements which are essential to the business of the company' (s 417(5)). This last requirement to provide 'supply chain' information was introduced into the 2006 Act by way of a late amendment. In the course of debate the government did note that companies would not be expected to list all of their suppliers and customers, but only give information about their 'significant relationships'.

Directors are not required to disclose information about a person in a business review if it would, in their opinion, be seriously prejudicial to that person and contrary to the public interest (s 417(11)). This provision is implemented to address concerns as to how animal rights activists could use disclosed information. Further, directors do not have to disclose 'pending developments or matters in the course of negotiation if the disclosure would, in the opinion of the directors, be seriously prejudicial to the interests of the company' (s 417(10)). A considerable amount of commercially sensitive information could potentially fall into this category. Further, there is a clear difficulty with policing this provision, for if the pending developments or matters under negotiation are not in the public domain in the first place it will be difficult to question a director's
opinion that publication would be seriously prejudicial.

Electronic communication

The 2006 Act emphatically endorses the use of electronic communication. For instance, ss 298 and 299, govern publication via a company's website and communication by electronic means of information and documentation concerning written resolutions or statements relating to written resolutions. If a company gives an 'electronic address' in any document accompanying a written resolution it is deemed to agree (in the absence of any contrary provision) to receive documentation and information sent to that address in relation to the relevant resolution.

For quoted companies, full details (including the results) of polls at general meetings must be made available on the company's website pursuant to s 341. Annual accounts and reports of quoted companies must also be published on the website and remain there until the next year's accounts are published (see s 430). Criminal liability attaches to those officers of a company who are responsible for contravention of these provisions (see s 430(6)).

Last week's article discussed the information rights that can be conferred on third party nominees by shareholders under Part 10 of the 2006 Act. The default means of disseminating information to such nominees is via the company's website (s 147(5)). If the nominee wishes to receive the information in hard copy, then the nominating shareholder must notify the company of this fact and provide an address for service (s 147(2) and (3)).

Ss 1143 to 1148 and Schedules 4 and 5 deal with other general company communications. In particular, Part 3 of Schedule 4 and Parts 3 and 4 of Schedule 5 to the 2006 Act provide that electronic communication can only be deployed by a company or its members if there has been agreement, generally or specifically, to receive communications in electronic form. No doubt such general agreement will increasingly be found in companies' articles of association.

Clearly companies will need to ensure that they have proper systems in place for dealing with modes of electronic communication. For larger and quoted companies, this will be a considerable task given the amount of information which is to be disseminated in electronic form. The risk of prosecution in the event of non-compliance should ensure that adequate measures to implement these new rules are taken. However, it remains to be seen whether the burden of ensuring that information is widely published via electronic sources is outweighed by the benefit of potentially increased shareholder awareness and participation.

Takeover Panel
The Panel on Takeovers and Mergers had been regulating takeovers on a non-statutory basis for 36 years. However, as a result of the EU directive on Takeover Bids (2004/25/EC), the UK was bound to give the Panel statutory authority. This has been achieved by Part 28 of the Companies Act 2006, together with a few minor amendments that were not required by the directive.

The Panel is given a rule-making power with a competence reflecting its current remit over activities covered by the City Code on Takeovers and Mergers: s 943(3). The Panel also has the power to obtain information and disclosure (s 947) and to impose sanctions (s 952). Ever since its inception there had been debate as to how compliance with the Panel's decisions could be ensured. Under the non-statutory regime, the Panel was able to invoke private and public censure statements (see the Introduction to the City Code). Under the 2006 Act the Panel continues to have these sanctions at its disposal. In addition, the Panel has discretion to introduce new sanctions (s 952(2)), so long as they are accompanied by policy statements dealing with the matters set out at ss 952(3) and (4) The Panel is obliged to engage in consultation over any proposed policy statement (or revised policy statement) although with whom is not clear. Section 952(6) only refers to 'such persons...as the Panel considers appropriate'.

Historically, concern has surrounded the question of the courts' level of intervention in the Panel's dealings if it were to become a statutory body. Now that the 2006 Act has re-created the Takeover Panel as a statutory body, it is certainly arguable that it will be increasingly vulnerable to judicial review.
Into force?

There is, unfortunately, no simple answer to the question of when the 2006 Act enters into force. A handful of provisions came into force when the 2006 Act received Royal Assent on 8 November 2006, including the majority of Parts 43, 44, 46 and 47: see s 1300. These mainly relate to transparency obligations, corporate governance and liability for stock exchange statements.

The Companies Act 2006 (Commencement No 1, Transitional Provisions and Savings) Order 2006 (SI no 3428) details those relatively uncontroversial sections which have already come into force and those which will come into force in January and April 2007.

The business world will have to await the government's detailed plans for bringing the rest of the 2006 Act into force, although the intention is to bring all parts into force by October 2008. It is anticipated that consultation for the purposes of implementation will commence in February 2007.

Overall the 2006 Act will introduce a regime that is modern and comprehensible, whilst also implementing some changes that are no less than radical. It is likely to play a part in ensuring that England and Wales continues to be a favoured location for incorporation in the global market place.