The Australian Securities and Investments Commission (ASIC) today clarified the effect of agreements for the removal of directors of public companies.

The Corporations Act 2001 says that only the shareholders can remove a director of a public company and that attempts by directors to remove another director from office are void. This means that an agreement (or any other arrangement) that says that a director can be removed from office if the other directors decide is ineffective.

Companies that have these arrangements in place and present them as if they are binding create a real risk that shareholders will believe that directors do have this power and will be misinformed. ASIC is concerned to ensure that shareholders are not misled in this way.

ASIC recognises that companies and their boards want to be free to establish robust and effective measures for assessing the performance of individual directors, and of the board as a whole. Good governance often involves assessing the performance of individual directors and holding each director to real account for their performance. Measures can include peer review mechanisms, where directors comment on and assess the contribution of other directors.

But it must be the shareholders who ultimately decide whether a director is to remain in office.

If a resolution to remove a director goes to a general meeting as a result of a performance review process, it is vital that shareholders be given all the details they need to make an informed decision. This includes giving the director who is the subject of the resolution a copy of the notice of meeting and the opportunity to put their case to shareholders.

While this represents the law as it currently stands, ASIC encourages discussion about, and the development of, mechanisms for assessing the performance of directors. This is a valuable contribution to the necessary and ongoing review and improvement of corporate governance standards. ASIC urges companies to adopt the following two principles in designing such standards:

• the arrangements, criteria and process should be transparent and fully disclosed
• the arrangements should be clear and legally enforceable.

These two principles can be achieved by setting out the arrangements in the company’s constitution. This has the added advantage of allowing shareholders a vote on the arrangements themselves.