Thought Leader : Meeting The Needs Of SMEs

Small and medium size enterprises (SMEs) are not as well served by the governance regime of the Companies Act 1993 as anticipated. The Act simplified life for listed companies and the larger unlisted companies but not necessarily for SMEs.

So what can be done to meet the needs of SMEs?
First, there can be system of self-­regulation devised specifically for SMEs. The Securities Commission’s Principles of Corporate Governance are of some use but are drawn up for listed companies. Hong Kong and Belgium have devised guidelines for SMEs. In 2003 Henry Bosch and I drafted the Hong Kong guidelines which provide for five different governance regimes based on the stage of growth of the SME. This reflects an empirical study of SMEs which was carried out. The Belgian Buysse Code of 2005 is similar but more theoretical.
Secondly, the statutory regime can be supplemented by private arrangements suited to the circumstances of the SMEs. These can be:
1. Shareholder agreements
2. Family arrangements
3. Joint venture agreements
4. Venture capital arrangements
5. Private equity arrangements.
Thirdly, we could design legal vehicle more suitable to the needs of SMEs. The recent introduction of the new Limited Partnership is one such model but it is more suited to private equity and venture capital arrangements than general use. Another model is the South African close corporation which has been great success but is currently under threat for socio-political reasons unconnected with its economic utility. The Australian attempt to introduce more complex close corporation statute in 1989 failed due to constitutional challenge. These experiences should not deflect us from looking closely at the South African model which was very simple statute ­accompanied by limited tax break.
The following are the distinctive characteristics of the South African model as stated by Professor Johan Henning, leading expert (this is taken verbatim from J Henning, “Kill Not the Corporation that Lays the Golden Eggs” (2008) 6.3 International and Comparative Corporate Law Journal 1, 3.):
• As the name implies, the close corporation is juristic person distinct from its members which consequently enjoys perpetual succession and its members have limited liability in respect of the corporation’s debts.
• It has the capacity and powers of natural person insofar as these are appropriate to legal person.
• The formation, administration and operation of close corporation are subject to the minimum formalities, administrative requirements and duties for the participants.
• A single person can form close corporation and it need not be an undertaking for gain.
• No shares are issued and there is no share capital.
• Instead of the traditional rules relating to the maintenance of capital in company law, the close corporation is allowed to utilise its capital as it pleases, provided it maintains the necessary solvency and liquidity.
• Members are allowed the greatest possible flexibility in arranging their internal relationship and the management of the close corporation.
• All the members have in principle an equal say in the management of the business and no provision is made for the appointment of directors. No distinction exists or is made between the providers of capital and management.
• The Act is to large extent decriminalised and members run the risk of personal liability should it appear that they have contravened the provisions of the Act or have put the close corporation or its creditors in jeopardy.
• The common law principles relating to the fiduciary duties and duties of care and skill in managing the affairs of the corporation are to large extent codified in the Act with the result that even the unsophisticated member knows exactly what is expected of him and his fellow members.
• Doctrines inherited from English com­pany law and which have fascinated company lawyers for so many years, such as the ultra vires doctrine, the doctrine of constructive notice, the rule in Royal British Bank v Turquand and the rule in Foss v Harbottle find no application in close corporation law.
• The accounting and disclosure provisions are far less extensive.
It is suggested that committee which includes strong representation from the business world as well as lawyers and ­accountants should be set up by the Ministry of Economic Development to consider this option. The Law Commission seems currently to have exhausted its earlier zeal for corporate and commercial law reform and there is need for broader representation for this kind of review in any event.

John Farrar is professor of corporate governance at the University of Auckland Business School and joint director of the New Zealand Governance Centre.

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