Directors should consider stakeholder interests in discharging their best interests duty

What you need to know

• Directors' duty to act in good faith in the best interests of the corporation has evolved beyond consideration of shareholders' interests only
• Consideration of the broad range of stakeholder interests is an important way to preserve shareholder value in the longer term
• The need to consider stakeholder interests does not displace directors' duty to shareholders, but complements it
• Directors have the discretion to decide what constitutes the best interests of the corporation and how those interests are best served

The Australian Institute of Company Directors (AICD) recently engaged Sydney barristers Bret Walker AO SC and Gerald Ng to advise on the current meaning of the directors' best interests' duty. Their legal opinion (accessible here) and the related AICD Practice Statement (accessible here), both of which were released on 25 July 2022, conclude that directors should have regard to the interests of stakeholders, including employees, customers, suppliers, creditors, Traditional Owners, the environment and the broader community, in addition to the interests of shareholders.¹ 

The Best Interests Duty 

Directors are required to exercise their powers and discharge their duties in good faith in the best interests of the corporation and for a proper purpose. It has long been accepted that the collective interests of shareholders is a central and primary consideration for directors in discharging this duty. In certain situations, directors have also been required to consider the interests of others, such as creditors in circumstances where the company is insolvent. 

Whilst the formulation of the statutory and general law best interests duty has not changed, the way in which this duty is interpreted continues to evolve.  Walker and Ng contend that the duty of directors to act in the best interests of the corporation has evolved to allow directors to consider the interests of stakeholders 'provided that there is a rational justification for doing so by reference to the long-term interests of the company, including its interest in avoiding reputational harm.'² 

Directors have discretion to decide what is in the best interests of the company, within the parameters of a 'reasonable director',³  and the time period over which those interests are to be assessed. Directors must also decide 'the precise nature of interests that are to be advanced or protected - whether they be purely financial, reputational or otherwise'.⁴

The best interests duty has not evolved in isolation. In separate advices over recent years barristers Noel Hutley SC and Sebastian Hartford-Davis have looked at the evolving nature of the director's duty of care and diligence.  In their latest opinion, Hutley and Hartford Davis suggest the care and diligence duty requires directors to consider, plan for, address and disclose climate change risks.⁵  (see here for more information on potential liability of directors in respect of climate disclosures) 

Directors' duties in a period of social change 

A lot has changed since 1970 when the New York Times published Milton Friedman's article entitled 'A Friedman doctrine- The Social Responsibility Of Business Is to Increase Its Profits'.⁶  

In recent years we have witnessed an unmistakeable shift towards conscious consumption and responsible investment over the pursuit of profit to the exclusion of social interests. Evidence of this is the rise of sustainable finance, the growing proliferation of net-zero commitments and the increase of ESG investing, which has reportedly risen by 338% in 2021 alone.⁷  

Beyond environmental considerations, employees, consumers, investors and regulators are increasingly expecting companies to align their corporate purpose with the corporation's social licence to operate.  This requires directors to have regard to the impact of corporate decision making on matters such as diversity and inclusion, rights of First Nations people, supply chain issues like modern slavery, workplace culture and human rights.  Several large, high profile companies which have not adequately addressed these issues have suffered widespread negative publicity and reputational damage. For some this has resulted in votes of no confidence against directors, the removal of executives and a significant decline in their corporation's share price. 

Driven by this social change, the interests of shareholders and stakeholders are converging, particularly in the longer term, such that the need to consider stakeholder interests does not displace directors' duty to shareholders, but complements it. The AICD notes that this convergence is consistent with the findings of Commissioner Kenneth Hayne in the Final Report of the Financial Services Royal Commission, who said:

“…The longer the period of reference, the more likely it is that the interests of shareholders, customers, employees and all associated with any corporation will be seen as converging on the corporation’s continued long-term financial advantage.”⁸ 

Don’t forget the 'S' in ESG

As directors' duties continue to evolve, directors are encouraged to remember that whilst 'ESG' is often used as a compendious term, changes in community and regulator expectations dictates that directors consider more than just the environmental impact of their decisions. 

The rise in importance of the 'S' in ESG, requires directors to consider the social impact of corporate decision making on all stakeholders and the community more broadly. Directors must recognise and take account of their business' role in society and the need for an increasingly tighter connection between social capital and bottom-line performance. 
 
Founder of Adara Group and Westpac Non-executive Director, Audette Exel AO summarised the position elegantly in a recent podcast with Ashurst. When asked how Boards manage the broad range of stakeholder expectations to create a marriage of a corporation's purpose and sustainable profit she said: 'it becomes really clear that these two concepts [profit and corporate purpose] are not mutually exclusive and in fact, quite the opposite, they are bound together.' 

(click here to listen to the Ashurst podcast 'Embedding purpose into Corporate Decision Making'  with Audette Exel). 

<sub>1. AICD Practice Statement - 'Directors’ "best interests” duty in practice', The Australian Institute of Company Directors <directors-best-interests-duty-in-practice-web2.pdf (aicd.com.au)> page 2
2.  Bret Walker and Gerald Ng, Legal Opinion - 'Australian Institute Of Company Directors The Content Of Directors’ “Best Interest” Duty' dated 24 February 2022 https://www.aicd.com.au/content/dam/aicd/pdf/news-media/research/2022/AICD-walker-opinion-feb-2022.pdf page 16.
3. See AICD Practice Statement, page 2.
4. See AICD Practice Statement, page 2.
5. See Noel Hutley SC and Sebastian Hartford Davis, 'Further Supplementary Memorandum of Opinion' 23 April 2021 https://cpd.org.au/wp-content/uploads/2021/04/Further-Supplementary-Opinion-2021-3.pdf
6. Milton Friedman, 'A Friedman doctrine- The Social Responsibility Of Business Is to Increase Its Profits', New York Times 13 September 1970 https://www.nytimes.com/1970/09/13/archives/a-friedman-doctrine-the-social-responsibility-of-business-is-to.html
7. See 'ESG Fund inflows boom in Australia in 2021' Calastone https://www.calastone.com/news/esg-fund-inflows-boom-in-australia-in-2021/
8. See AICD Practice Statement, page 2.</sub>