Sample First Class Undergraduate Business Law Essay (Oxbridge)

Here is a practical example of a first class undergraduate business law essay that attained a first-class! Please feel free to use this essay to structure and plan your law essays.

To what degree can mutual building societies be considered ‘social’ as opposed to commercial organisations?

Early building societies were small collectives of people to facilitate the purchase of property by all members of the society. Each member made a contribution to the fund and a property was allocated to a member at a time on a lottery basis once the collective fund was sufficient. All members would continue saving and contributing to the society until everyone was allocated a property, which was when the society would be terminated. Terminating building societies were therefore no more than ‘self help groups, a direct response by workers to the vicissitudes of industrial life’. The ‘social’ nature of the early building societies can be captured in the view that although the society existed to help individuals, it was an organisation based on collectivity, ‘the labels of “individualism” and “self-help” should be replaced by “collectivism” and “mutual aid”’.[1] These early societies were relatively independent as they could create internal rules as it was ‘earnestly hoped that benevolent institutions of this nature may not be cramped by rules’[2] and to quote Gosden, ‘the principal enemy of independence was thought to be state aid or interference in the field of friendly society activity’.[3]

These early building societies first received legal recognition through the Benefit Building Societies Act 1836 which was passed to “afford Encouragement and Protection to such Societies and the Property obtained therewith”. The Act was contained within nine sections that made building societies legal and enabled the building societies to take action against defaulting and fraudulent members by “such reasonable Fines, Penalties, and Forfeitures upon the Several Members of any such society who shall offend any such rules”.[4] The Act also provided societies with an exemption of stamp duty upon the transfer of shares.[5] In return for this concession, societies had to abstain from investing in “any saving bank, or with the commissioners for the reduction of national debt”.[6] The funds which Building societies could lend to its members must be the fund invested by the members.

For 70 years building societies had been small in size and number, never exceeding 80. But, by 1850 the entire movement was estimated to hold a total annual income of £2, 400, 000.[7] This made the traditional terminating societies increasingly redundant given that their were designed for a small, non-fluctuating group of saver/ borrower members. This saw a reorganisation of the mutual society.

This led to the emergence of permanent societies that existed indefinitely. The overall underlying purpose of terminating societies was to collectively engage in the purchase of property through a collective fund, in other words they invested in order to borrow. Whereas permanent societies separated the two functions performed by members into two independent categories: investor and borrower, each coming with its benefits and responsibilities. This distinction can be clarified in the words of the Royal Commission in that ‘instead of all the members being expectant borrowers, as appears to have been first the case, and is still the case in some groups, the two classes of investors and borrowers are now distinct, the former usually outnumbering the latter and monopolising the profits’.[8]

Mutual Societies

‘An attribute that originated as a response to a particular set of social and economic imperatives and was subsequently moulded by ideology and economics’ p. 221

Social

‘Early building societies were small collectives of local people who made monthly contributions, at a set amount. The purpose of this was to save enough to facilitate all the members’ purchase f property, with property allocated to one member at a time when the collective fund was sufficient. The member to whom this property was allocated was usually chosen through a lottery system. Members would continue to save until all the membership had purchased a property after which the society would come to end’. P. 221

First building society established in 1767 and for over 60 years the building societies operated without any legislation specifically designed for their usage, their internal organisation prescribed by the members rather than by legislation. Despite this, most building societies organised themselves in a fairly similar manner...societies operated under a system whereby members receive equal benefits for equal contributions and once all members had been allocated housing, the society was terminated’.

In 1836 the Benefit Building Society Act was passed, with its stated aim to ‘afford Encouragement and Protection to such Societies and the Property obtained therewith’. (1936). But while this bill acknowledged the existence of building societies among the ‘industrious classes’, parliamentary records prior to 1836 indicate that there was little concern or knowledge of building societies within contemporary governing bodies. The bill was passed with no recorded debate and, perhaps for this reason, became subsequently renowned for the ambiguity of its drafting. Societies were exempted from the payment of stamp duty on the transfer of shares. (The Benefit Building Societies Act 1936, s 8.). In return for this legal Protection societies were made subject to the laws pertaining to usury (s. 2) and were prohibited from investing in ‘any savings bank, or with the commissioners for the reduction of national debt’. (s.6).

By the time act was passed, terminating societies had already been shaped by their social and ideological origins. The eighteenth century witnessed the emergence of collectives of working people who organised (under the legal form of a friendly society) to provide a ‘safety net’ for the insecurities of working life. However, because of the political climate, these societies overtly underlined their uncontroversial nature could be disbarred for drunkenness, swearing oaths against the King, political discussion, adultery, and even for contracting venereal disease.  Created and maintained as self-help groups for working people and operating independently from recognised state authorities, friendly society aims were largely to circumvent the grosser failures of the market to deal with problems of social welfare, such as unemployment or injury and death in the workplace. Generally, members paid a monthly subscription into a central fund and in return were insured to a small degree against the vicissitudes of working life. However, inherent in the practice of collective organisations lay the possibility of a political threat to the existing balance of power. As one historian noted ‘what was a friendly society but a popular club likely during a time of political agitation, to become a centre of Jacobin propaganda’. (Fox, A, Beyond Contract, Oxford, 1977, p.288.) Such strict policing of members indicated a clear moral agenda (it was the whole moral and economic person that was required by Societies), but it was a morality that was internally generated...Although organised to help individuals, it was an organisation based on collectivity, ‘the labels of “individualism” and “self-help” should be replaced by “collectivism” and “mutual aid” and there is little sign of “social exclusiveness”’. (David Neave, Muutual Aid in The Victorian Countryside: Friendly Societies in the Rural East Riding 1830-1914, 1991, p 98.) In addition, this form of moral policing spoke of a desire to maintain some independence from the state by proving their collective ability to self-regulate.

The emergence of early building societies encapsulated a basic conflict, for while the members of building societies were ‘buying into’ the norms of a market economy through the acquisition of private housing or land, they were maintaining a more desirable position of independence and self-determination.

Atiyah, in The Rise and Fall of the Freedom of Contract, notes that until the complete emergence of the market economy, it was property law that dominated the English legal system, usurped in the latter part of the eighteenth century by contract law. He argued that ‘this transition from property to a law of contract relating to property merely reflects the now familiar process by which the significance of property rights changed from their use value to their exchange value’. (Op. Cit., Atiyah, p 103.). Transformed under the market economy, property emerged as just another commodity, valued by the market. Previously, property denoted stability, continuity and heritage, providing for material needs and ensuring the continuity of relationships of deference and domination. However, Atiyah’s assertion that the increased ability to alienate and exchange property (through the contract form) had depoliticised property is not in accord with other important work on the nature of property. Macpherson, for example, argues that property itself is not neutral, but representative of a particular set of social and political relationships. (Quoted by Macpherson, CB in The Political Theory of Possessive Individualism: Hobbes to Locke, 1962, Oxford: Clarendon Press, p 123.) He argues that when (and only when) property is for the most part held as private property it appears to be the case that ‘property is a thing’. This is because the right to both enjoy and dispose of property is held by one legal entity. The true essence of property is that it exists as a ‘political right between persons’. And, in the case of private property, it is the political right to exclude all persons from use  of the thing. Alternatively, common property represents a shared mutual right of all individuals to the thing. Property rights are, by their very nature, only meaningful when accompanied by a political and coercive organisation that is capable of enforcing recognition of these rights. Private property, therefore, is only a meaningful right because of the political phenomenon of the state, an organised, specialised system of enforcement that ensures private property owner’s absolute right to exclude others- the nature of a right being entirely derived from its enforceability as a claim and the enforceability of that claim depending upon a particular set of political relations.

The effect of the freehold land movement on the building society movement as a whole had been transformative. For 70 years building societies have been small in size and number, never exceeding 80. But, by 1850, 2, 000 societies had registered under the 1836 Act (Scratchley, A, Industrial Investment and Emigration, 2nd edn, 1858, London: John W Parker, p 50. In addition to this they attracted large sums of money. By 1850 the entire movement was estimated to hold a total annual income of £2, 400,000 (Ibid) This meant that the traditional terminating societies had become increasingly inappropriate, designed as they were for a small, non-fluctuating group of saver/borrower members.

The most important factor in reconceptualising mutuality lay in the reorganisation of the mutual society. A particular problem with terminating societies was that individuals who wished to join some time after a society had been founded were often unable to do so due to the high costs of joining late and, effectively, having to ‘catch up’ with other members’ savings.

Solution to this organisational problem was presented by Arthur Scratchley, who argued for a society that did not terminate in a fixed period, but existed indefinitely. These he called ‘permanent societies’. Under this organisational form , members would have an individual contract with the society designating them as either investors receiving interest or borrowers paying interest. Investors would be able to withdraw their investment with a relative ease, while borrowers would make periodic repayments over a fixed period, making their loan arrangement ‘terminating’ rather than society itself.

Scratchley argued that the benefits of a permanent over a terminating society were, in the main, that ‘the difficulty of funding borrowers, at any time in the course of the existence of a society is removed…members don’t pay arrears if they join later and the number of share holders increase rather than diminish in the life of a building society (ibid. p 52)

The absolute mutual character of terminating societies that derived from members’ equal engagement, commitment and benefit in the organisation was necessarily undermined by the organisation of the permanent principle. In a terminating society  members invested in order to borrow. Collective participation enabled them to do as a group what they could not do as individuals. This collective solution was embraced precisely because of the economic status of members who…were better-off working class. In contrast, permanent societies distilled the two functions performed by members into two distinct roles, investor and borrower, thereby drawing a distinction between the benefits and responsibilities attributed to each. In the words of the Royal Commission, ‘instead of all the members being expectant borrowers, as appears to have been first the case, and is still the case in some groups, the two classes of investors and borrowers are now distinct, the former usually outnumbering the latter and monopolising the profits’. (Op. cit., Royal Commission, p 13.)

Mutuality remained, to the extent that all members were economically interdependent , but was undermined to the extent that the self-interest of investing members and borrowing members conflicted, as the role of the former had become usurious in character.

Separation of the two classes of members led to the charging of high interest rates to borrowers: ‘the mere fact that the usual recommendation which building societies put forth for themselves is the large rate of profit they give to investors, is clear proof of the high rate which the borrower has to pay for his money.’ The emerging oligarchic tendencies of building societies meant that the borrower had little choice but to accept the high rates charged.

The use of building society funds for these purposes seemed more the exception than the rule. Evidence from the building society Protection Society (BSPS) indicated that the advances tended to be small and non-commercial. Its statistics drawn from 251 societies indicated that 69,879 advances were made in the ‘lower rate’, while only 9, 393 were made on the higher rate. The proportion of lower rate advances to higher rates, about nine to one, was however lower in London at about six to one. The BSPS nevertheless concluded that building societies still maintained their roots within the ‘industrious classes’.

The system, however, was highly successful and was concretised in the Building Societies Act 1874. It  remains the method of organising societies today. The separation between borrower member and investing member and the individual agreements members would have with the society rather than between each other was legally expressed in s 9 of the Building Societies Act 1874. This section determined that registration of a society automatically created  a corporate entity, distinct from its members and possessing perpetual succession.

‘Every society now subsisting or hereafter established shall, upon receiving a certificate of incorporation under this Act, become a body corporate by its registered name, having perpetual succession, until terminated or dissolved in manner herein provided, and a common seal’. (Building Societies Act 1874, s 9).

Individualised members now had a legal relationship with a distinct entity, the building society. The new societies were no longer made up of members and indistinguishable from the membership. They were distinct entities responsible for mediating the financial interests between borrowing and investing members.

The new rules were enforced by personal responsibility of members. With the exception of those societies already in existence, members of societies that failed to register would be personally liable for ‘every day business is carried on’. Officers of registered societies that exceeded amounts in loans and deposits prescribed by the Act would be personally liable for the amount loaned in excess of this sum. (S 46).

Experience shows that although social businesses do not usually grow as quickly as commercial ones, they do not shrink as much either and weather recessions more successfully.

So proposals are being made to expand social investment, for example through tax breaks for local investment trusts. There are suggestions that regulators should require major investors such as pension funds to direct a proportion of investments into this social economy.

Now innovation policy is being broadened, partly to reflect the continued growth of services, and partly the rising importance of sectors such as health. Late last year a European Union business panel recommended “a broader sense of innovation” and a reorientation of support towards “compelling social challenges”. In the US, President Barack Obama has created an Office of Social Innovation in the White House. In Japan, China and Korea, too, the idea is also turning up in public policy pronouncements.

The third shift is in public services. Social enterprises already play major roles in fields such as housing and care, while fiscal pressure has spurred interest in their potential to take over parks, libraries and rural transport services. The UK now has some 62,000 social enterprises. Their total turnover is around £24bn; that of the co-operative movement is £28bn.

David Cameron, the Conservative leader, promises a bigger role for co-operatives and social enterprises – the “big society” that will take over from big government. Gordon Brown claims with some justification that his government has invested at least £1bn in social enterprises over the past few years.

The debate is heading towards a new approach to growth. Instead of seeing the economy as the wealth creator that generates taxes to spend on social needs, we increasingly focus on the connections between social and economic issues. A strong economy depends on socially owned institutions as well as social investment. But effective social solutions cannot rely solely on government provision; they also depend on entrepreneurialism, innovation and competition.

http://www.ft.com/cms/s/0/c91d9896-32c7-11df-a767-00144feabdc0.html

Building societies are less prone than banks to pursue risky speculative activity;

A stronger mutual sector will enhance competition within the financial system.

While it is clear that mutual financial institutions have traditionally been narrowly focused and (with some recent exceptions) relatively low-risk institutions as a direct result of restrictive regulation, financial mutuals would tend to adopt this profile even in the absence of such regulation. With respect to risk, this reflects the fundamental characteristics of mutuals, specifically their lack of access to significant external sources of capital, and being owned by saver members rather than external shareholders. The knowledge that capital cannot easily be replaced following the generation of significant losses is likely to induce mutual financial institutions to adopt a relatively low-risk profile.7

Hansmann (1996) and Chaddad and Cook (2004) find that mutual financial institutions in the United States tend to adopt less risky strategies than demutualised ones. 

Mutuals do not pay dividends to external shareholders. Instead, financial success can be used to reduce the margin between the interest rate they charge to borrowers and what they pay to savers (on which, see Drake and Llewellyn, 2001). This 'margin advantage' of mutual financial institutions due to them not having to pay dividends on external capital, and the systemic advantages of a mixed financial structure, represent economic and welfare benefits from having a mutual building society sector. There is a powerful systemic interest in sustaining a strong mutual sector and, therefore it is a legitimate public policy issue. There are several key issues in this regard which point to the benefits that might flow from re-mutualisation:

Because mutuals are not owned by investment institutions, they are not subject to the short-termist pressure of the capital market.

1. The advantage through having a mix of institutions with different portfolio structures with the potential to reduce overall systemic risk because institutions are not homogeneous. The more diversified is a financial system in terms of size, ownership and structure of businesses, the better it is able to weather the strains produced by the normal business cycle, in particular avoiding the bandwagon effect, and the better it is able to adjust to changes in consumer preferences. As put in a Financial Times editorial (27 April 1999): '… a pluralist approach to ownership is conducive to greater financial stability. With their contrasting capital structures, banks and building societies balance their risks and loan portfolios differently. Systemic risk is therefore reduced'.

Though there have been recent exceptions with some building societies expanding excessively into commercial property loans, mutuals tend to adopt a lower risk profile because their main source of capital is that generated within the business. Unlike with a plc, capital that is destroyed through, for instance, bad lending cannot easily be replaced by raising new capital in the market.

one of the arguments traditionally used against mutuality is that mutuals are more likely to face capital constraints because of their capital structure and governance model. On the other hand, plc banks (which in theory can always seek more capital from shareholders) have experienced serious capital shortages to the extent that government assistance has been needed on a large scale.

Secondly, most building societies have not moved sharply away from their traditional model whereas, as described later, the magnitude of the problems faced by banks (and most especially some converted building societies) has been due largely to banks adopting new business models with a high dependence on securitisation, credit-risk shifting derivatives, and wholesale market funding. Overall, the building societies weathered the storm better than have the banks. There are three main reasons for this: firstly, regulation limited the extent to which building societies could diversify into the areas (e.g. derivatives trading) that proved to be a serious problem for many banks. Secondly, their mutual status meant that they generally had a lower risk appetite irrespective of regulation. Thirdly, both by regulation and choice, building societies limited their dependence on wholesale funding markets and securitisation.

However, some building societies did diversify away from their traditional business models and in particularly excessively into commercial property lending. To this extent, they developed a risk appetite inappropriate for a mutual. There may have been something of a failure of supervision as well as management. The most spectacular case was the Dunfermline which, at the end of March 2009, was in serious difficulty with a loss expected to be in the region of £26 million and with problems attached to its high-risk commercial loan book, some toxic assets, its IT infrastructure, and payments to be made to the Financial Services Compensation Scheme.

The May 2009 Report from the Treasury Select Committee concluded that:

To date, building societies have generally been shown to have operated a safer business model. Certain features of the building society model, including the comparatively low reliance on wholesale funding and the focus on the protection of members rather then the service of shareholders, have left building societies better equipped to defend against the shockwaves of the current crisis. We heard evidence that establishing new building societies was now harder than it was when the Ecology Building Society was started in 1981. The Government should examine, with the sector, whether any legislative or regulatory changes are required to facilitate building society start-ups and remutualisation.

(Treasury Select Committee, 2009, Paragraph 63)

[1] David Neave, Mutual Aid in The Victorian Countryside: Friendly Societies in the Rural East Riding 1830-1914, 1991, p98.

[2] Preface to the rules and articles of the Castle Eden Friendly Society.

[3] Op. cit., Gosden, p 163.

[4] The Benefit Building Societies Act 1936 section 1

[5] The Benefit Building Societies Act 1936 section 8

[6] The Benefit Building Societies Act 1936 section 6

[7] Scratchley, A, Industrial Investment and Emigration, 2nd edn, 1858, London: John W Parker, p 50.

[8] Op. cit., Royal Commission, p 13.