Companies and Limited Partnerships Amendment Bill – Progress at last

31 July 2012

Companies and Limited Partnerships Amendment Bill – Progress at Last
After first being introduced in a blaze of publicity about New Zealand shelf companies being used for a number of illegal activities overseas, the Companies and Limited Partnerships Amendment Bill has finally progressed to Select Committee stage.
As well as the much-heralded tightening of the requirements for company registration and the addition of a residency (or resident agent) requirement for company directors, the Amendment Bill incorporates proposals to:
• ‘criminalise’ the breach of certain directors’ duties; and
• prohibit companies which are subject to the Takeovers Code from (arguably) circumventing the Takeovers Code by undertaking a long-form amalgamations under Part 13 of the Companies Act – as well as changes to better align the process for Court-approved schemes of arrangement or amalgamations under Part 15 of the Companies Act with the requirements of the Takeovers Code.
Tightening company registration to prevent misuse
Chief amongst the proposed measures designed to safeguard against misuse is the proposal to require all New Zealand registered companies to have either:
• a resident director who lives either in New Zealand or an “enforcement country”; or
• a resident agent.
A resident agent must be a natural person who lives in New Zealand and must not be the auditor of the company. The qualifications required for a resident agent will be similar to those required in order to be a director.
The role of a resident agent will be administrative, rather than that of overseeing the governance or management of the company. A resident agent will be required to ensure that the company and its directors comply with their respective reporting and record-keeping obligations. Non-compliance will render the resident agent liable, on conviction, to a fine.
Note that the registered agent requirement will only apply to those companies without a director resident in either New Zealand or an “enforcement country”. An “enforcement country” is one that can enforce New Zealand judgments imposing regulatory regime criminal fines, which include those arising under the Companies Act. Such countries will be named in regulations when information sharing arrangements with the Registrar of Companies are in place. The prime example is likely to be Australia.
Limited partnerships
The Amendment Bill contains proposals for similar requirements in the case of limited partnerships. Specifically, a limited partnership will be required to have a resident agent if it does not have:
• a general partner who is a natural person living in New Zealand (or in an “enforcement country”);
• a general partner that is a partnership governed by the Partnership Act 1908 that has at least 1 partner who is a natural person living in New Zealand (or in an “enforcement country”); or
• a general partner that is a company registered in New Zealand under the Companies Act (noting that such a company will be required to have either a resident director (or director in an “enforcement county”) or a resident agent.
Whilst the changes for limited partnerships are intended to be of the same nature as for companies, there are differences because of the differences between a limited partnership and a company (and between general partners and directors). For example a general partner may be seen as performing the same functions as a director of a company however, unlike a director (who must be a natural person), a general partner may be a partnership or a company or a natural person. As a result, the amendments for limited partnerships are a little more complicated than the equivalent amendments to the Companies Act.
Amalgamations and schemes of arrangement by “code” companies
The Takeovers Panel has long had concerns about the use of amalgamations and schemes of arrangements by code companies as an alternative to a takeover offer under the Takeovers Code. The Amendment Bill adopts the Panel’s recommendations for reform by making a making a number of changes to the Companies Act, as follows:
Prohibition of long-form amalgamations

Code companies will be prohibited from undertaking a long-form amalgamation under Part 13 of the Companies. (Short-form amalgamations between a subsidiary and parent will still be permitted).

Court-approved schemes and amalgamations

If a code company seeks Court approval of a scheme of arrangement, amalgamation, or compromise under Part 15 of the Companies Act, and the relevant scheme affects the voting rights of a code company, the applicant must notify the Takeovers Panel of the application.

In turn, the Court may not approve the scheme, where it will affect the voting rights of the code company, unless the code company’s shareholders have approved it and either of the following applies:
• the Court is satisfied that the shareholders of the code company will not be adversely affected by the use of a Court-approved scheme rather than an offer under the Takeovers Code; or
• the applicant has filed a ‘no objection’ letter from the Takeovers Panel.
Note that the Court retains the ability to decline a proposed scheme even if the Takeovers Panel has no objection to it.

Clarification of shareholding approval requirements

The Amendment Bill contains two further, significant, changes in this area. First, it provides that the code company’s shareholders may only approve the arrangement, amalgamation, or compromise by a two-tier vote:

• by a resolution approved by a majority of 75% of the votes of the shareholders in each interest class entitled to vote and voting on the question; and
• by a resolution approved by a simple majority (50%) of the votes of those shareholders entitled to vote.
(Note that the second tier vote requires 50% approval by all shareholders – not just those voting).
Secondly, the Amendment Bill sets out (in a new Schedule 10 to the Companies Act) the principles that may be used to determine interest classes for the purpose of shareholder voting on a proposed scheme. On an initial reading, these principles appear to largely codify the existing law by referring to such matters as shareholders whose rights are so similar that they can sensibly consult together about a common interest (and where they cannot – they are to be regarded as being in different interest classes).

Consequential changes
A number of consequential amendments will also be made to provide for:
• the Takeovers Panel’s new functions of considering whether to provide a no objection letter; and
• clarification that, if the Court approves the scheme, then the Takeovers Code does not apply.
Practical implications
There are a number of practical implications that will flow from the (legislated) scope for choosing to undertake a Court-approved scheme under Part 15 of the Companies Act, rather than a code offer. Chief among these will be requirements for obtaining a ‘no objection’ letter from the Takeovers Panel. (Note that the Panel has previously signalled that it will require an independent adviser’s report has been provided to shareholders as a condition of providing a ‘no-objection’ letter).
It is also likely that the process of achieving the required levels of shareholder support, particularly the 2nd limb of 50% shareholder approval, will require much greater effort.
There have also been a number of views expressed, in response to the Panel’s proposals, about the likely impact on existing market practices such as pre-bid stake building.
Criminalising of certain breaches of directors’ duties
The Amendment Bill also proposes to amend the Companies Act to criminalise ‘serious’ breaches of two duties of directors:
• the duty provided for in section 131 of the Companies Act (the duty of directors to act in good faith and in the best interests of the company); and
• the duty provided for in section 135 of the Companies Act (the duty of directors not to agree to, or cause or allow, company business to be carried on in a manner likely to create a substantial risk of serious loss to the company’s creditors).
This means that a director who breaches the duty in section 131 commits an offence if he or she knows that the breach is seriously detrimental to the interests of the company. And a director who breaches the duty in section 135 commits an offence if he or she knows that the breach will result in serious loss to the company’s creditors.

The penalty for both offences is provided for in the consequential amendments contained in the Amendment Bill – of imprisonment for a term not exceeding 5 years or a fine not exceeding $200,000.

These proposals are not new and have already been the subject of some consultation as part of the securities law review process that gave rise to the Financial Markets Conduct Bill that is presently before Parliament.

These proposals are, and will continue to be, controversial. Amongst the criticisms of what some regard as a knee-jerk reaction to some of the practices exposed by the trail of finance companies collapses, are concerns that there are already a number of offence provisions which apply to breaches of specific directors’ duties and that criminalising conduct that falls short of actual dishonesty is inappropriate and has the potential to deter competent and honest people from accepting appointment to company boards.
In my view, the relevant Government agencies have yet to adequately demonstrate that there is a yawning gap in their existing armoury. I am also concerned that, if such a gap exists, it should apply equally to conduct across the commercial sector (regardless of business vehicle) as well as activities in the not-for-profit sector (and as an employee, trustee and other positions of trust and responsibility). An offence that applies regardless of form will also require some thought about the identification of the appropriate prosecuting agency (and the risk of overlap that has been a problem in other areas where, for example, the Commerce Commission seem, to have the power and willingness to trump all other agencies).
The deterrence issue also concerns me. In order for this economy to continue to lift itself off the canvas, the SME sector (particularly) needs good governance inputs from people with experience (and mana). By creating uncertainty, particularly as dishonesty does not seem to be a prerequisite for prosecution, there seems to me to be the very real prospect of discouraging the sort of strong hands on the tiller that are needed.
Finally on this point, I am concerned that we not compound the existing (known) difficulties with the prohibition on so-called ‘reckless trading’ under section 135 which already requires judges to strain the language of the prohibition to make any sense of it (and assume that it should not designed to penalise directors for legitimate risk-taking). Without fixing the underlying problem, piling additional sanctions on top only seems to provide scope for the difficulties to be compounded – coupled with the additional uncertainties that will be generated when judges have to undertake a ‘reverse engineering’ exercise in an attempt to fix the underlying section so that proposed new penalties make sense.
Submissions and timeline
Submissions on the Amendment Bill are due by 6 September with the Commerce Select Committee not being due to report back on the Amendment Bill until January 2013. As a result, the best estimate of the proposed changes coming into force is in the 2nd quarter of 2013 at the earliest.