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House of Commons

Friday 25 January 2002

The House met at half-past Nine o'clock

PRAYERS

[Mr. Speaker in the Chair]

Orders of the Day

Industrial and Provident Societies Bill

Order for Second Reading read.

9.33 am

Mr. Gareth R. Thomas (Harrow, West): I beg to move, That the Bill be now read a Second time.

I start by declaring the assistance that I have received from the Co-operative party and Cobbetts.

In the northern part of my constituency can be found the excellent Pinner and Grammarians rugby football club, which plays in the Herts and Middlesex fourth division north, level 12, of the Rugby Football Union's structure. It turns out an excellent veterans' team, and it has a distinguished history. One of its former players, Stuart Wilson, went on to captain Scotland and to play for the British Lions. The club has the distinction of being the most junior rugby club to have seen one of its members, the late Cyril Gadney, achieve the honour of being president of the RFU. In the context of today's debate, however, the club's importance lies in the fact that it is an industrial and provident society.

In the south of my constituency, close to the Rayners Lane estate, there is the Tithe Farm social club, which is home to the excellent—but not as well known as it might be—Rayners Lane football club. It is also home to a series of social activities such as darts and snooker leagues. It, too, is an industrial and provident society. According to the Financial Services Authority, at the end of 2000 there were more than 9,000 other industrial and provident societies, with some 10.5 million members between them, funds of more than £14.5 billion and assets worth almost £61.5 billion.

Other examples of industrial and provident societies include the Homes group, a housing association that manages more than 43,000 properties and is the second largest registered social landlord in the country. Within the Homes group is Warden Housing, which, if its tenants vote for stock transfer, is set to redevelop completely the Rayners Lane estate, for which we have been waiting 20 years. Both the Homes group and Warden Housing are industrial and provident societies.

The excellent Lincoln retail co-operative society provides a range of retail and property services to its 133,000 members.

The last example that I shall mention immediately is the Women's Institute market in Dorridge in the west midlands. It has an annual turnover of some £68,000 and

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45 active producer members, and it has sold home-made, home-grown and hand-crafted produce in Dorridge every Friday morning since 1974.

A couple of years ago, I made a mental note never to upset the Women's Institute—I cannot remember why—so I should like to place on record the considerable benefit that the 510 Women's Institute markets bring to our country. The House may be interested to know that last year, between them—they are all industrial and provident societies—they sold more than 1 million garden shrubs, 780,000 fruit and vegetable plants, 500,000 kg of fresh produce, 200,000 bunches of freshly picked flowers and 1 million pots of jam, marmalade and pickles. As if that was not enough, alongside the sewing, woodwork, pewterwork, knitting, lace-making, millinery, hand-made cards and pictures and yet more knitting sold last year, there were 10,000 pairs of bootees.

Industrial and provident societies have their roots in the self-help tradition of the Victorian era. Their origin dates in part from when the incorporation of legal bodies first became possible, with joint stock companies in 1844—the beginning, as I am sure that the House will be aware, of company law in this country. Incorporation allows an organisation its own legal personality. It can sue and be sued and own property and enter into contracts, and it enjoys the privilege of limited liability.

As we all know, the company is the commonest form of incorporated body. The number of registered companies runs to many millions, more than 1 million of which are currently trading. The company continues to be a highly effective means of attracting investment and of generating rewards for entrepreneurs and those who are prepared to take risks with their capital, and it will rightly continue to play a vital role in the development of our economy.

While the company was emerging, other legal forms of business ownership were emerging to meet other needs. The co-operative society emerged as a trading vehicle through which people could meet their basic requirements to buy food at a fair price. The building society emerged at the same time, as a vehicle to help those who lacked the means to purchase their own home. Friendly and provident societies also emerged, to offer mutual insurance against sickness or unemployment.

What all those different legal forms had in common was the fact that they were incorporated as independent legal bodies with a separate legal personality, but governed by their own legislation. Company, building society and friendly society law has changed substantially over the past 150 years but, with the exception of certain consolidatory statutes or specific narrow issues, industrial and provident society law has not changed fundamentally since 1862.

The motivation of industrial and provident societies, like their close cousins the building societies and the friendly societies, is mutual self-help rather than the generation of profit for investors. Trading successfully is, of course, necessary if any corporate body is to survive, but producing a profit is not the prime purpose of industrial and provident societies.

There are two types of industrial and provident society, the first of which is the co-operative society. A co-operative conducts its business in the interests of members, who gain from it on the basis of how much they use the service or its trade, rather than purely on the basis

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of their investment in it. If people want to register a new co-operative society today, they have to satisfy the Financial Services Authority that the proposed organisation is a bona fide co-operative. Many retail and agricultural organisations and many social clubs are designed as co-operatives.

Indeed, the House may be surprised to learn that the Bill has produced a considerable postbag, including letters from members of industrial and provident societies. Mrs. Doris Humbles from Southbourne in Dorset wrote to me to say what a good idea she thought it was that small clubs should be protected. She went on to describe her club, saying:


I do not know whether the hon. Member for Christchurch (Mr. Chope) is a member of that Conservative club, but if he is—in the spirit in which these Friday debates are usually conducted—perhaps when I am next campaigning in Hampshire for the Labour party, he would be good enough to vouch for me and let me take advantage of the service provided by that excellent industrial and provident society.

The second category of industrial and provident societies are those that carry on a trade for the benefit of the community, rather than just their own members. Such societies are known as community benefit societies—abbreviated to bencoms. They include the many housing associations that exist, some social clubs and the new football supporters trusts. Industrial and provident societies give legal form—thus structure and clarity—to a range of community organisations and activities, for which charitable structures, public sector structures and the company model are not entirely appropriate.

A key attraction of the industrial and provident society is the element of democracy. Where a number of people are involved or are dependent as customers on the service or trade of the organisation, the one member, one vote principle that the industrial and provident society offers presents a powerful attraction. It is an arrangement by which power or control cannot be bought for money. Where a local community has been involved in creating or protecting an important community facility, the one member, one vote governance route helps to reflect the effort that all those involved have put in and their mutual dependence on one another. Industrial and provident societies that are members of the excellent Village Retail Services Association, which helps to keep rural post office and shopping facilities available to communities, are good examples of that.

A similar form of democracy can be created in a company. Indeed, some co-operatives have even decided to use the company model. I do not knock that approach, but the problem is that nothing can stop shareholders changing or abandoning the original purpose for which the company was set up.

A second key difference between the industrial and provident society and the company model is the approach of the different registration bodies. Under the Industrial and Provident Societies Act 1965, the Financial Services Authority has to approve any changes to the constitution of an industrial and provident society, and it strictly

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monitors such changes to ensure that they are in line with the registered purposes of the society. That clearly offers added reassurance to members.

Companies House, by contrast, has no such function. It has a lighter touch, with the result that shareholders or members of a company can change the company's constitution more easily. Companies House does not scrutinise constitutional changes to companies. Such scrutiny is not needed, as there is no equivalent to section 1 of the 1965 Act in company law. Those key differences create important distinctions between the company model and industrial and provident society model, and they provide choice for those looking for the right legal structure to suit their purpose.

A variety of structures give legal expression to the activities and services of organisations rooted in our communities, reflecting the many differences in their motivation, modus operandi, financing, governance and so on. I am not seeking to say that the industrial and provident route represents the best legal structure for every situation—for some scenarios, it would be entirely inappropriate—but our legal structures need to be robust. The industrial and provident society model has not undergone the same reforms as the traditional private sector model over the past 100 years or so, or indeed as the building and friendly society models, which were reformed in 1986 and 1992 respectively.

The Bill contains three key clauses to try to change the current situation. The first clause would ensure that industrial and provident societies could not be dissolved by the vote of a small and unrepresentative group of members. The second clause would enable community benefit societies to include a provision safeguarding their assets in their constitutions. The third clause would enable industrial and provident society rules to be updated by secondary legislation.

Clause 1 deals with the power to convert an industrial and provident society into, or to transfer the entire business to, a company. Such a step can be taken if 75 per cent. of those at a general meeting vote in favour of conversion. No requirement exists for a minimum number of members to be in favour of the resolution, and any attempt to include such a provision in a society's rules would contravene the 1965 Act and would be rejected by the FSA. Conversion to a company is a fundamental change in the nature of an industrial and provident society.

As hon. Members know, a company is a vehicle for generating profits for its shareholders, and the ability to distribute the profits generated from its trade is fundamental to its nature, whereas co-operative societies and bencoms are set up not as vehicles to generate profits for investors but to trade for the benefit of the community. Members of a community benefit society are not permitted to receive any payment by way of a profit distribution. All such profits must be retained in the society and applied to the society's objectives in serving the community. Similarly, on a solvent dissolution, any surplus remaining after all its liabilities have been paid off should pass not to members, but to some other community benefit purpose under the current rules.

A co-operative society also has a fundamentally different purpose from a company. It is set up by its members as a vehicle to pool their transactions and co-operatively to provide goods or services to themselves and/or the wider community. A co-operative is legally

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permitted to make a distribution to its members or customers from its surplus profits, but that power of distribution originated to reimburse to its customers the amount by which they had, in effect, overpaid for their purchases. The mechanism is intended to ensure that customers are not exploited by paying too much. That is illustrated by the fact that a distribution of profits is based on purchases, not on the size of the shareholding.

Conversion from an industrial and provident society is therefore an event of considerable significance for all the society's members. It involves changing from one corporate body with a particular purpose to another corporate body with a significantly different purpose. Surely such an event should not occur without a substantial body of support from the society's membership and without a substantial section of its membership participating in that decision.

The ability to convert has existed under the legislation since the 19th century, and the provisions that require a 75 per cent. majority of those voting at a meeting of members also has a long history. If a majority of members of a society want to convert, neither I nor anyone else should stand in their way, but the membership's view must be fundamentally clear. A 75 per cent. vote in favour of a conversion resolution by those who turn up at a meeting might involve a mere handful of people turning up to a badly advertised meeting and agreeing a change that might irreversibly alter the nature of a corporation with hundreds of thousands of members.

The building society movement has wrestled with that issue for a number of years, and a significant number of societies have demutualised and paid a windfall gain to their members. There has been only one failed attempt at a hostile dissolution of a co-operative society. In 1997, Andrew Regan, through Lanica, attempted to demutualise the Co-operative Wholesale Society. Notwithstanding the fact that the attempt failed, the threat of demutualisation remains real to many co-operative societies.

Although successful and efficient management of the society's business, together with the cultivation of an active, engaged membership, is the best way to maintain support for a society's mutual status, it is surely right that legislation should ensure that no conversion to a company can take place without a substantial body of the membership participating in that vote.

Since the Lanica affair, a number of societies have adopted rules to introduce a high quorum for resolutions to convert a society into a company. There has not been a legal challenge to such rules yet, but there is concern that it could be made by a predator with a deep pocket, and there is a danger that it might succeed. Doubts about that should not be left to the courts and the lawyers to determine. Surely it is a matter for Parliament to address, and the Bill offers the House the opportunity to do exactly that.

Such a provision has already been introduced for building societies. The Building Societies Act 1986, and the 1997 statutory instrument that updates it, requires 50 per cent. of the membership to participate in any such vote for it to be effective. Another parallel is the takeover code, which sets a 50 per cent. threshold as the key to resolving the success or otherwise of a vote in a public takeover of one company by another. The Bill proposes a similar provision for industrial and provident societies. It does not change the requirement that 75 per cent. of the

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vote of members attending a meeting is necessary; it simply adds the requirement that 50 per cent. of eligible members would need to vote for that conversion to occur.

The Bill also recognises that the registers of society members are not necessarily up to date and it requires them to take reasonable steps to establish those persons who are entitled to vote under its rules. It also requires 50 per cent. of such people to take part in any vote before the chairman of the relevant meeting can declare the resolution duly passed.

Clause 1 recognises implicitly that co-operatives are designed to serve and to be controlled by their members. For that reason it must be right that they can convert their co-operative society into a different business structure if a large majority is secured in favour of it. Those societies that are registered to operate for the benefit of the community have a different purpose, however. Their function is to benefit people other than their members. Nevertheless, the members of bencoms, often those who serve on the board of a society, could vote to dissolve a society and convert it into a company or to convert it into a co-operative. It is surely inappropriate for a society that has been set up to benefit the community either to re-register as a co-operative, which operates in the interests of its members, or to convert to a company, which operates in the interests of individual shareholders.

The assets in a community benefit society are, as I said, held for the benefit of the community. An important feature of a bencom is that unlike the comparable company model, the commitment to community benefit is subject to a review by the registering authority, so any attempts to change the constitution to water down such a commitment would not be approved by the Financial Services Authority. Those assets may have been built up over many years with generations of people from different families in a community working to develop them. The Bill proposes that those incorporating a new society should be able to elect that no such power to convert should be included in their rules. Subject to obtaining the support of a 75 per cent. majority of those voting at a meeting where not less than 50 per cent. of those qualified to vote participate in the vote, the Bill further provides that an existing society should also have the power to incorporate such a provision in its constitution.

Bencoms and charities have parallel roles. Charities cannot convert into co-operatives or a company. Charitable assets are effectively dedicated permanently to that charitable purpose. The clearest parallel is that they operate for the benefit of communities.

Clause 2 would allow community benefit societies to choose to have similar protection in law as charities and to be free from the possibility that one group of activists in the organisation could attempt to use the organisation's assets for their own benefit rather than for their original established purpose, which is for the benefit of the community.

Ironically, such societies are not supposed to make distributions out of profits or surplus to members, and, on a solvent winding-up, assets should not be distributed to members. However, the ability to convert or transfer engagements to a company under section 52 of the 1965 Act allows such restrictions to be avoided once the society is converted into a company and the shareholders could amend the rules that permit the distribution of assets to themselves. There is clearly a loophole in the legislation, which the Bill attempts to address.

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Clause 2 specifically permits the constitution of a bencom to include provisions to prohibit the distribution of assets to members and to prohibit the distribution of any of its assets except on its dissolution. Even when it is dissolved, the clause imposes significant restrictions on the way in which the assets are distributed. It also prohibits the transfer of engagements or the conversion to a company and prevents the avoidance of the provisions by a change of rules.

Hon. Members may be concerned about the flexibility of such arrangements. Clause 2 is perhaps deceptive, but it does allow for considerable flexibility. If the bencom were to dissolve, its assets could be transferred to another community benefit society with similar provisions in its rules, or to a charity. Furthermore, it does not prevent the sale of assets—or, indeed, the entire business in appropriate circumstances—by the bencom and the subsequent distribution of the cash surplus to another community benefit society or to a charity.

Clause 2 also allows a bencom to convert to a company or another body if that company contains similar provisions in its constitution to protect the assets for the benefit of the community. If a bencom needs, for some reason, to convert to a different legal entity, such conversion is permitted. What is not permitted is the liberation of those assets from their original purpose—the commitment to community benefit. Those provisions will apply only if a society adopts them in its constitution by resolution of its members and approval of the FSA is secured in the usual way.

The final operative clause, clause 3, attempts to provide a mechanism to allow Parliament to consider sensible reforms to the corporate governance of industrial and provident societies when those same reforms have been introduced for companies after parliamentary debate. The reality is that there have been very limited opportunities, both under the Conservative party and the Labour party, to update the rules and regulations by which industrial and provident societies operate.

There are precedents for such a measure. Some change to industrial and provident society rules is possible under the Deregulation and Contracting Out Act 1994, even though the original discussions focused on deregulation of company law. One of the joys of preparing for today's debate was that I got to read the Second Reading debate and the Committee stage of that Act, and I could find no mention of industrial and provident societies. Nevertheless, two sensible amendments to the rules of industrial and provident societies have been made under its provisions.

As well as being limited to the purpose of assimilating industrial and provident society law and company law, the power to modify is further limited because it does not extend to those sections of the 1965 Act that are essential to the very nature of such societies. For example, the provisions that set out which societies can be registered and those that deal with amalgamation, transfer of engagements and conversions are specifically excluded from the power in clause 3.

Sensible reforms that are in place for companies but not for industrial and provident societies include a rule proscribing loans by the organisation to one of their directors. Another basic sensible rule in place under the

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Companies Act 1985 is that substantial property sales or transactions with directors require shareholder approval. There is no similar requirement for the directors or chief executives of an industrial and provident society. Indeed, the 1985 Act sensibly sets out what transactions can and cannot happen between company directors and their companies. The power of a court, on application by the Department of Trade and Industry, to disqualify directors who are unfit to hold office does not apply to society directors. Clause 3 offers a sensible solution to those defects.

Company legislation also prohibits provisions in the constitution of companies that prevent claims against directors for breaches of statutory or common law. Societies still have such provisions in their constitutions. Clause 3 holds out the possibility that such changes to industrial and provident society rules could occur if Parliament were so minded.

Such a change would provide additional protection for the societies' consumers and members, and is surely a sensible, relatively minor amendment for which secondary legislation would be an appropriate mechanism. Parliament has already considered the substance of the issues during the various debates on companies law reform and it has discussed many of the changes in debates on the reform of building and friendly societies.

Other sensible reforms that may be instigated under this procedure include changes to the ultra vires law for companies and to the accounting and auditing requirements for societies, for insolvency rescue procedures and for receivership procedures, all of which are now significantly out of step with companies. That combination of problems reduces confidence in the industrial and provident society model. In the case of insolvency, it makes rescue of a society much more difficult. I remind the House that a further safeguard in the Bill is the use of the affirmative resolution procedure for any changes made under clause 3.

My interest in co-ops and mutuals is not new. I have highlighted the potential of social enterprises and new mutuals in Adjournment debates and under the ten-minute Bill procedure. I hope that the co-op and mutual sector will continue to develop and expand, offering, where appropriate, sensible, level-headed alternatives to exclusively private sector options and other approaches and structures.


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