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Journal of Corporate Law Studies Volume 12, 2012 - Issue 1
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Original Articles

The Authorising of Directors' Conflicts of Interest: Getting a Balance?

Andrew Keay Professor of Corporate and Commercial Law, Centre for Business Law and Practice, School of Law, University of Leeds.
Pages 129-162 | Published online: 07 May 2015

  • For an early case, see Keech v Sandford [1726] Sel Cas Ch 61, (1726) 25 ER 223. R Kreitner, “Frameworks of Cooperation: Competing, Conflicting and Joined Interests in Contract and its Surroundings” (2005) 6 Theoretical Inquiries in Law 59, 71, places fiduciaries just behind public officials in importance when it comes to ensuring avoidance of conflicts.
  • [1896] AC 44 (HL).
  • Ibid, 51. The US position also traditionally has been strict. See, eg Wardell v Union Pacific Rail Road Co (1880) 103 US 651, 658.
  • [1998] Ch 1.
  • Ibid, 18.
  • The rule can be traced back to Keech v Sandford, supra n 1. See Sinclair Investments (UK) Ltd v Versailles Trade Finance Ltd [2010] EWHC 1614 (Ch), [2011] 1 BCLC 202, [31].
  • Wilkinson v West Coast Capital [2005] EWHC 3009 (Ch), [2005] BCC 717, [251].
  • Warman International Ltd v Dwyer (1995) 182 CLR 544, 557 (joint judgment).
  • Wilkinson v West Coast Capital, supra n 7, [252].
  • Transvaal Lands Company v New Belgium (Transvaal) Land and Development Company [1914] 2 Ch 488; In Plus Group Ltd v Pyke [2002] EWCA Civ 370, [2002] 2 BCLC 201 (CA).
  • Murad v Al-Saraj [2005] EWCA Civ 959, [74], [107]; Kingsley IT Consulting Ltd v McIntosh [2006] EWHC 1288 (Ch), [2006] BCC 875, [55].
  • Kingsley IT Consulting Ltd v McIntosh [2006] EWHC 1288 (Ch), [2006] BCC 875, [55].
  • B Hannigan, Company Law (Oxford University Press, 2nd edn, 2009), 246.
  • [2005] EWCA Civ 959, [107].
  • (1803) 8 Ves 337, 345.
  • [2005] EWCA Civ 959, [71].
  • (1854) 1 Macq HL 461.
  • Bray v Ford [1896] AC 44; Furs Ltd v Tomkies (1936) 54 CLR 583, 592.
  • [1967] 2 AC 134.
  • Of course, a way around the problem for the company might well have been for the directors to have given personal guarantees or to have obtained further finance for Regal: P Davies, Gower and Davies' Principles of Modern Company Law (London, Sweet and Maxwell, 8th edn, 2008), 561.
  • J Cox, “Managing and Monitoring Conflicts of Interest: Empowering the Outside Directors with Independent Counsel” (2003) 48 Villanova Law Review 1077, 1079.
  • A Boone and J Mulherin, “Conflicts of Interest in Corporate Control Transactions: The Role of the Disinterested Special Committee” (March 2011), available at http://ssrn.com/abstract=1783064 (accessed on 23 March 2011).
  • supra n 13, 247.
  • Regal (Hastings) Ltd v Gulliver [1967] 2 AC 134 (HL). If they profit and do not receive approval then they are obliged to account for any profit that might have been received: Keech v Sandford (1726) Sel Cas Ch 61, (1726) 25 ER 223, [1726] All ER Rep 230; Boardman v Phipps [1967] 2 AC 46, 123.
  • And also the no-profit rule. See s 175(2).
  • Explanatory Notes to the Companies Act 2006 at para 339.
  • Boardman v Phipps, supra n 24, 124; Queensland Mines Ltd v Hudson (1978) 52 ALJR 399, 401 (PC); Bhullar v Bhullar [2003] 2 BCLC 241, [2003] BCC 711.
  • GC100 (the Association of General Counsel and Company Secretaries of the FTSE 100 companies), “Companies Act 2006—Directors' Conflicts of Interest” (Association of General Counsel and Company Secretaries of the FTSE 100, 18 January 2008), para 2.2(b).
  • For a classic example, see Cook v Deeks [1916] AC 554.
  • Regal Hastings, supra n 24. If they profit and do not receive approval, then they are obliged to account for any profit that might have been received: Keech v Sandford, supra n 24; Boardman v Phipps, supra n 24, 123.
  • S Deakin and A Hughes, “Directors' Duties: Empirical Findings—Report to the Law Commissions”, para 5.2; referred to in R Nolan, “The Legal Control of Directors' Conflicts of Interest in the United Kingdom: Non-Executive Directors Following the Higgs Report” (2005) 6 Theoretical Inquiries in Law 413, 443.
  • This also applied where the director was not to receive any benefit himself or herself personally from the conflicted interest, but it was received by a company which he or she incorporated to make any contracts and to take any profits. See Cook v Deeks, supra n 29; CMS Dolphin Ltd v Simonet [2001] 2 BCLC 704, [2002] BCC 200; Crown Dilmun v Sutton [2004] EWHC 52 (Ch), [2004] 1 BCLC 468.
  • P Davies, Gower and Davies' Principles of Modern Company Law (London, Sweet and Maxwell, 7th edn, 2003), 394, makes the point that this is consistent with the law as it applies to promoters who only have to disclose to an independent board.
  • S 175(5)(a).
  • S 175(5)(b).
  • For the predicament in which shareholders of public companies find themselves, see A Keay, “Company Directors Behaving Poorly: Disciplinary Options for Shareholders” [2007] Journal of Business Law 656.
  • As found initially by A Berle and G Means, The Modern Corporation and Private Property (New York, MacMillan, 1932).
  • P Finn, Fiduciary Obligations (Sydney, Law Book Company, 1977), 203.
  • Ibid, 204.
  • Lord Goldsmith in Lords Grand Committee, 9 February 2006, Hansard vol 678, col 326.
  • [1963] 2 QB 606.
  • Ibid, 637–38.
  • The GC100, supra n 28, para 2.3, lists (non-exhaustively) examples of conflicts.
  • Z Goshen, “Conflicts of Interest in Publicly-Traded and Closely-Held Corporations: A Comparative and Economic Analysis” (2005) 6 Theoretical Inquiries in Law 277, 281.
  • A Anderson, “Conflicts of Interest: Efficiency, Fairness and Corporate Structure” (1978) 25 University of California at Los Angeles Law Review 738, 754.
  • Ibid, 756.
  • F Cafaggi, “Organizational Loyalties and Models of Firms: Governance Design and Standard of Duties” (2005) 6 Theoretical Inquiries in Law 463, 464, 479.
  • G Hertig and H Kanda, “Related Party Transactions” in R Kraakman, P Davies, H Hansmann, G Hertig, KJ Hopt, H Kanda and EB Rock (eds), The Anatomy of Corporate Law (Oxford University Press, 2004), 129.
  • Company Law Review, Modern Company Law for a Competitive Economy: Final Report (London, HMSO, 2001), para 3.23.
  • B Clark and A Benstock, “UK Company Law Reform and Directors' Exploitation of ‘Corporate Opportunities'” (2006) 17 International Company and Commerical Law Review 231, 238.
  • Nolan, supra n 31, 429.
  • supra n 48, 109.
  • E Rock and M Wachter, “Islands of Conscious Power: Law, Norms and the Self-Governing Corporation” (2001) 149 University of Pennsylvania Law Review 1619, 1662–63.
  • Ibid, 622.
  • J Lowry and R Edmunds, “The Corporate Opportunity Doctrine: the Shifting Boundaries of the Duty and its Remedies” (1998) 61 Modern Law Review 515, 515.
  • Nolan, supra n 31, 415.
  • See, eg D Forbes and F Milliken, “Cognition and Corporate Governance: Understanding Boards of Directors as Strategic Decision-Making Groups” (1999) 24 Academy of Management Review 489.
  • supra n 13, 262.
  • Ibid.
  • See, eg Cook v Deeks, supra n 29.
  • supra n 57, 492.
  • Ibid, 492, 493.
  • J Lorsch and E McIver, Pawns or Potentates: The Reality of America's Corporate Boards (Cambridge, MA, Harvard Business School Press, 1989), 41–49; A Pettigrew and T McNulty, “Power and Influence in and Around the Boardroom” (1995) 48 Human Relations 845, 857.
  • S Ramirez, “The Special Interest Race to CEO Primacy and the End of Corporate Governance Law” (2007) 32 Delaware Journal of Corporate Law 345.
  • An example is Dorchester Finance Co Ltd v Stebbing [1989] BCLC 498.
  • S Hill, “The Social Organization of Boards of Directors” (1995) 46 British Journal of Sociology 245, 269.
  • A Pettigrew and T McNulty, “Sources and Uses of Power in the Boardroom” (1998) 7 European Journal of Work and Organizational Psychology 197, 200.
  • M O'Connor, “The Enron Board: The Perils of Groupthink” (2003) 71 University of Cincinnati Law Review 1233, 1263.
  • L Dallas, “Proposals for Reform of Corporate Boards of Directors: The Dual Board and Board Ombudsperson” (2007) 54 Washington and Lee Law Review 91, 98.
  • Ibid, 110–11.
  • Pettigrew and McNulty, supra n 63, 859; D Langevoort, “The Human Nature of Corporate Boards: Law, Norms and the Unintended Consequences of Independence and Accountability” (2001) 89 Georgetown Law Journal 797, 810. Also, see supra n 64.
  • Lorsch and McIver, supra n 63, 17; R Fink, “Social Ties in the Boardroom: Changing the Definition of Director Independence to Eliminate ‘Rubber-Stamping' Boards” (2006) 79 Southern California Law Review 455, 464. JR Brown Jr, “Disloyal without Limits: ‘Independent' Directors and the Elimination of the Duty of Loyalty” (2006–07) 95 Kentucky Law Journal 53, 101, sees the selection process as being the root cause of a lack of independence of directors. Even if the CEO does not have a hand directly in selection, nominating committees will often effectively select people who would be acceptable to the CEO.
  • M Mizruchi, “Who Controls Whom? An Examination of the Relation Between Management and Boards of Directors in Large American Corporations” (1983) 8 Academy of Management Review 426, 431, points out that it is not always possible to guarantee that the directors who are selected will act as is expected.
  • J Nocera, “System Failure”, Fortune, 20 June 2002, 62, 72.
  • Company Law Review, supra n 49, vol 1, 347, notes to clause 6 of Sch 2.
  • This is a model set of law prepared by the Committee on Corporate Laws of the Section of Business Law of the American Bar Association and is followed by 24 states.
  • Section 8.62(1), available at http://apps.americanbar.org/buslaw/committees/CL270000pub/nosearch/mbca/assembled/20051201000001.pdf (accessed on 9 March 2011).
  • Section 1.43, available at http://apps.americanbar.org/buslaw/committees/CL270000pub/nosearch/mbca/assembled/20051201000001.pdf (accessed on 9 March 2011).
  • ICSA International, “ICSA Guidance on Directors' General Duties” (January 2008), para 3.5.3.
  • Nolan, supra n 31, 424.
  • A Page, “Unconscious Bias and the Limits of Director Independence” [2009] University of Illinois Law Review 237, 277.
  • S Bond et al., “Information Distortion in the Evaluation of a Single Objective” (2007) 102 Organizational Behaviour and Human Decision Processes 240, 240; referred to in Ibid, 279; D Chugh et al., “Bounded Ethicality as a Psychological Barrier to Recognising Conflicts of Interest” in D Moore et al. (eds), Conflicts of Interest: Challenges and Solutions in Business, Law, Medicine and Public Policy (New York, Cambridge University Press, 2005), 84.
  • R MacCoun, “Biases in the Interpretation and Use of Research Results” (1998) 49 Annual Review of Psychology 259, 269–73.
  • Chugh, supra n 82, 74–75.
  • P Thagard, “The Moral Psychology of Conflicts of Interest: Insights from Affective Neuroscience” (2007) 24 Journal of Applied Philosophy 367, 373.
  • A Tenbrunsel and D Messick, “Ethical Fading: The Role of Self-Deception in Unethical Behaviour” (2004) 17 Social Justice Research 223, 225.
  • T Wilson and N Brekke, “Mental Contamination and Mental Correction: Unwanted Influences on Judgments and Evaluations” (1994) 116 Psychology Bulletin 117, 126.
  • Re Oracle Corp Derivative Litigation (2003) 824 A 2d 917, 939 note 55 (Del Ch Ct) per VC Strine.
  • supra n 81, 239.
  • For example, Bergstein v Texas International Co 453 A 2d 467, 470 (Del, 1982).
  • H Gelb, “Corporate Governance and the Independent Myth” (2006) 6 Wyoming Law Review 129, 135. See also R Burch, “The Myth of the Unbiased Director” (2008) 41 Akron Law Review 509.
  • K Davis, “Structural Bias, Special Litigation Committees and the Vagaries of Director Independence” (2005) 90 Iowa Law Review 1305, 1308.
  • Beam v Stewart 845 A 2d 1040, 1050–51 (Del Sup Ct, 2004).
  • J Velasco, “Structural Bias and the Need for Substantive Review” (2004) 82 Washington University Law Quarterly 821, 824.
  • J Cox, “Searching for the Corporation's Voice in Derivative Suit Litigation: A Critique of Zapata and the ALI Project” [1982] Duke Law Journal 959, 962.
  • Langevoort, supra n 71, 811.
  • M Healey and V Romero, “Ingroup Bias and Self-Esteem: A Meta-Analysis” (2000) 4 Personality and Social Psychology Review 157, 157.
  • supra n 81, 249.
  • L Rudman, “Social Justice in Our Minds, Homes and Society: The Nature, Causes and Consequences of Implicit Bias” (2004) 17 Social Justice Research 129, 139.
  • Diversity in groups has been shown to prevent in-group bias because there is a more thorough evaluation of issues where diversity exists: supra n 57, 497–99.
  • Cox and Munsinger, supra n 72, 104.
  • supra n 69, 105, 109.
  • Ibid, 109.
  • Cox and Munsinger, supra n 72, 88.
  • See, eg The Alliance for Board Diversity, “Women and Minorities on Fortune 100 Boards” 2008, available at http://www.proutgroup.com/Resources/abdreportfinal2008.pdf (accessed on 7 March 2011).
  • Cox and Munsinger, supra n 72, 99.
  • supra n 85, 374–75.
  • R Dawes, “Behavioural Decision Making and Judgment” in D Gilbert (ed), Handbook of Social Psychology (Wiley, 4th edn), vol 1, 497, 521; referred to in Page, supra n 81, 251.
  • See G Hertel and N Kerr, “Priming In-Group Favouritism: The Impact of Normative Scripts in the Minimal Group Paradigm” (2001) 37 Journal of Experimental Social Psychology 316, 321, 322.
  • See, eg I Janis, Victims of Groupthink (New York, Houghton Mifflin, 1972).
  • Ibid, 78.
  • Ibid, 68.
  • C Prendergast, “A Theory of ‘Yes Men'” (1993) 83 American Economic Review 757, 769.
  • supra n 68, 1288.
  • supra 81, 253. See also Cox and Munsinger, supra n 72, 91, 99–100.
  • Langevoort, supra n 71, 810.
  • A Neish, “People Like Us” (2011) Counsel 16.
  • Langevoort, supra n 71, 810.
  • It has been said that cohesiveness enhances decision-making: M Hogg, “Self-Identity, Self- Categorization and the Small Group” in E Witte and J Davis (eds), Understanding Group Behavior (Muhway, NJ, Lawrence Erlbaum Associates, 1996), vol 2, 227.
  • supra n 68, 1246, 1279.
  • Cox and Munsinger, supra n 72, 92.
  • See Re HIH Insurance Ltd (in prov liq); ASIC v Adler [2002] NSWSC 171, (2002) 41 ACSR 72, (2002) 20 ACLC 576.
  • W Powers, “Report of the Special Investigative Committee on Enron” (1 February 2002), 173. It is noted that the CFO (Andy Fastow) was not a member of the board but he was supported there by Ken Lay, the chairman of the board.
  • Fink, supra n 72, 457.
  • Beam v Stewart, supra n 93, 1050.
  • J Westphal and E Zajac, “Defections from the Inner Circle: Social Exchange, Reciprocity and the Diffusion of Board Independence in US Corporations” (1997) 42 Administrative Science Quarterly 161, 163–64.
  • Langevoort, supra n 71, 810.
  • Fink, supra n 72, 465.
  • R Nelson, “The Strength of Strong Ties: The Social Network and Intergroup Conflict in Organizations” (1989) 23 Academy of Management Journal 377, 380.
  • supra n 81, 257.
  • Langevoort, supra n 71, 810.
  • See F Robatyn, “An Agenda for Corporate Reform”, Wall Street Journal, 24 June 2002.
  • Statement of Norman Blake in “The Role of the Board of Directors in Enron's Collapse: Hearing Before the Permanent Subcommittee on Investigations of the S Committee on Governmental Affairs” (2002) 107th US Congress 25.
  • supra n 66, 253, 256.
  • Ibid, 256.
  • Ibid.
  • Cox and Munsinger, supra n 72, 91.
  • Lorsch and McIver, supra n 63, 85.
  • supra n 68, 1287.
  • S Asch, “Opinions and Social Pressure” (1955) 193(5) Scientific American 31; referred to in R Jones, “Law, Norms and the Breakdown of the Board: Promoting Accountability in Corporate Governance” (2006) 92 Iowa Law Review 105, 139–40.
  • E Smith and D Mackie, Social Psychology (London, Psychology Press, 1995), 373–76.
  • J Turner, “Social Categorisation and the Self-Concept: A Social Cognitive Theory of the Group” (1985) 2 Advances in Group Processes 77, 94–95 and 115; referred to in Jones, supra n 140, 140.
  • See, supra n 57; Langevoort, supra n 71, 810.
  • Langevoort, supra n 71, 797.
  • supra n 69, 110.
  • E Jonas et al., “Confirmation Bias in Sequential Information Search After Preliminary Decisions: An Expansion of Dissonance Theoretical Research on Selective Exposure to Information” (2001) 80 Journal of Personality and Social Psychology 557, 557. See also J Russo et al., “Predecisional Distortion of Information by Auditors and Salespersons” (2000) 46 Management Science 13, 13.
  • Russo, Ibid, 13.
  • A Elstein and G Bordage, “Psychology of Clinical Reasoning” in G Stone (ed), Health Psychology—A Handbook (1979), 352–58; referred to in Page, supra n 81, 267.
  • L Johnston, “Resisting Change: Information-Seeking and Stereotype Change” (1996) 26 European Journal of Social Psychology 799.
  • M Gazzaniga, The Ethical Brain (New York, Dana Press, 2005), 122.
  • S Hardt et al., “Biased Information Search in Group Decision Making” (2000) 78 Journal of Personality and Social Psychology 655, 655.
  • J Russo et al., “The Distortion of Information during Decisions” (1996) 66 Organizational Behaviour and Human Decision Processes 102; referred to in Hardt, Ibid.
  • C Nemeth and J Rogers, “Dissent and the Search for Information” (1996) 35 British Journal of Social Psychology 67; referred to in Hardt, Ibid, 656.
  • Russo, n 146, 26.
  • supra n 81, 271.
  • [2004] EWHC 2993 (Ch), [2008] 1 BCLC 46.
  • Ibid, [237]–[240].
  • supra n 13, 266.
  • Ibid, 266–67.
  • B Clark, “UK Company Law and Directors' Exploitation of ‘Corporate Opportunities'” (2006) 17 International Company and Commercial Law Review 231, 239.
  • See, eg K Diekmann et al., “Self-Interest and Fairness in Problems of Resource Allocation: Allocators Versus Recipients” (1997) 72 Journal of Personality and Social Psychology 1061, 1061.
  • supra n 94, 859–60.
  • B Cheffins, “Trust, Loyalty an[d] Cooperation in the Business Community: Is Regulation Required?” in B Rider (ed), The Realm of Company Law (London, Kluwer Law, 1998), 75. But Richard Nolan has suggested that the idea that reputational concerns may act as a constraint on directors can be overstated: Nolan, supra n 31, 426.
  • Nolan, Ibid; GC100, supra n 28, para 1.3.
  • See Asch, supra n 40; referred to Jones, supra n 40, 145.
  • Langevoort, supra n 71, 826–27.
  • See A Keay and J Loughrey, “Derivative Proceedings in a Brave New World for Company Management and Shareholders” [2010] Journal of Business Law 151.
  • Z Goshen, “The Efficiency of Controlling Self-Dealing: Theory Meets Reality” (2003) 91 California Law Review 393, 404.
  • See F Easterbrook and D Fischel, “Corporate Control Transactions” (1982) 91 Yale Law Journal 698.
  • See, eg M Blair, “Shareholder Value: A New Standard for Company Conduct” in K Hopt and E Vermeersch (eds), Capital Markets and Company Law (Oxford University Press, 2003), 348–49; H Hu, “New Financial Products, the Modern Process of Financial Innovation and the Puzzle of Shareholder Welfare” (1991) 69 Texas Law Review 1273, 1285.
  • Company Law Review, supra n 49, vol 1, para 3.25.
  • At the moment, shareholders can bring derivative proceedings against any conflicted directors, but only if they can establish a breach of duty.
  • See Goshen, supra n 168, 426.
  • supra n 44, 279–88.
  • supra n 81, 290.
  • supra n 44, 298.
  • This is suggested by Dallas, supra n 69, 114. It is not clear whether this would be permitted under the present legislation.
  • Explanatory Notes to the Companies Act 2006, para 340.
  • supra n 173, 402.
  • supra n 44, 292.
  • Ibid, 292–93.
  • Except where the issue was proximate to the time for the convening of the annual general meeting when it could be dealt with in that meeting.
  • supra n 48, 110.
  • See, eg supra n 68, 1295; supra n 81, 291.
  • supra n 110, 267.
  • D Stone, M Sivitanides and A Magro, “Formalized Dissent and Cognitive Complexity in Group Processes and Performance” (1994) 25 Decision Sciences 243, 245.
  • D Schweiger, W Sandberg and P Reichner, “Experiential Effects of Didactical Inquiry, Devil's Advocacy and Consensus Approaches to Strategic Decision Making” (1989) 32 Academy of Management Journal 745, 750.
  • See Clark, supra n 160, 236.
  • Aronson v Lewis 473 A 2d, 805, 816 (Del, 1984).
  • Nolan, supra n 31, 443.

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