Minority Shareholder Remedies

Question 1

What are the principles from Foss v Harbottle (1843)?

Answer 1

(1) The ‘proper claimant’ principle - company is the proper claimant for wrongs done to the company
(2) The ‘internal management’ principle - where a company is acting within its powers, the courts will not interfere in matters of internal management unless the company itself commences proceedings

Question 2

What are the advantages of the principles of Foss v Harbottle (1843)?

Answer 2

Convenience & legal certainty
Recognises separate legal personality of company
Prevents multiple shareholder actions to remedy wrong done to the company
Prevents futile litigation

Question 3

What are the disadvantages of the principles of Foss v Harbottle (1843)?

Answer 3

Problem that wrongdoer has control
Risk to vulnerable minority shareholders
Problematic esp. for minority shareholders in unlisted companies where more room for abuse

Question 4

What are the four exceptions to rule in Foss v Harbottle (1843) and what is the authority for them?

Answer 4

Edwards v Halliwell [1950] per LJ Jenkins:

(1) where the act complained of was illegal or ultra vires
(2) where the act complained of was a violation of a requirement in the articles for a special majority
(3) where there has been a denial of an individual membership right
(4) where the majority commit a fraud on the minority

Question 5

What is the only true exception to the rule in Foss v Harbottle? Why is this so?

Answer 5

Fraud on the minority
A true exception to Foss v Harbottle is one whereby the member enforces a right belonging to the company. In the case of illegal/ultra vires acts, personal rights or acts requiring a special resolution, the right is actually vested personally in the member.

Question 6

What were the facts in Foss v Harbottle (1843)?

Answer 6

Two shareholders commenced an action against the directors of the company alleging that they had sold their own property to the company at an extortionate price and then improperly mortgaged it.
High Court held: shareholder not competent to commence the actions. If a wrong is done to the company then the company is the proper claimant, not the individual shareholders.

Question 7

What did you need to show to establish a derivative action under common law for fraud on the minority? What is the authority for this?

Answer 7

Portfolios of Distinction Ltd v Laird [2004]

(1) shareholder is bringing the action bona fide for the benefit of the company
(2) no other adequate remedy is available

Question 8

What are the criticisms of the fraud exception to Foss v Harbottle derivative actions at the common law?

Answer 8

The fraud exception is a formidable task
Need for a two-stage hearing
A prima facie case must be shown by the claimant (Prudential Assurance v Newman Industries [1982])

Question 9

What were the comments and recommendations of the Law Commission report on Shareholder Remedies (1997)?

Answer 9

(1) ‘Obscurity and complexity’ of law on ability of shareholder to bring proceedings on behalf of company
(2) Law relating to exceptions to Foss v Harbottle principle is ‘rigid, old fashioned and unclear’
(3) Recommended a new derivative procedure with more modern, flexible and accessible criteria for determining whether shareholder should be able to pursue an action
(4) Proposal for a new derivative action was also in line with international developments e.g. Australia, Canada, Hong Kong, South Africa and New Zealand

Question 10

Which case is authority for the fact that fraud on the minority makes any resolution purporting to ratify the conduct voidable?

Answer 10

Brown v British Abrasive Wheel Co [1919]

Question 11

Which case is authority for the fact that fraud on the minority includes abuse or misuse of powers?

Answer 11

Estmanco Ltd v Greater London Council [1982]

Anything abusive or deceitful is enough

Question 12

What is the definition of fraud on the minority and which case established this?

Answer 12

Daniels v Daniels [1978] per Templeman J
Where directors abused their power ‘intentionally or unintentionally, fraudulently or negligently, in a manner which benefits themselves at the expense of the company’

Question 13

How did Lord Davey define fraud on the minority in Burland v Earle [1902]?

Answer 13

‘When the majority are endeavouring directly or indirectly to appropriate to themselves money, property or advantages which belong to the company or in which the other shareholders are entitled to participate’

Question 14

What are the three possible minority shareholder remedies in the Companies Act 2006?

Answer 14

(1) statutory derivative claim
(2) unfair prejudice claim
(3) petition to wind up the company

Question 15

What were the so-called four exceptions to the rule in Foss v Harbottle?

Answer 15

(1) ultra vires or illegal transactions
(2) special majority requirement not followed
(3) personal rights of shareholder affected
(4) fraud on the minority

Question 16

Where is the authority for a shareholder to bring a statutory derivative claim for a wrong done to the company?

Answer 16

S.260 CA 2006

Question 17

What is the two-stage test for establishing a derivative action and where is the authority that requires this?

Answer 17

S.261 CA 2006

(1) is a prima facie case established?
(2) is there sufficient evidence for the court to order a full trial?

Question 18

What are the causes or actions that can amount to a s.260 statutory derivative claim and where is the authority for this?

Answer 18

S.260(3) CA 2006
- negligence
- default (I.e. Failure to perform a legally obligated act)
- breach of duty
- breach of trust
N.B. that can be from an actual or proposed act/omission

Question 19

Who may a shareholder bring a statutory derivative claim against and what is the authority for this?

Answer 19

S.260(3) CA 2006 - a director or another person (or both)

But remember that the act or omission can only be made by the director

Question 20

What must a member of a company bringing a statutory derivative claim seek to obtain in order to continue with their claim and what is the authority for this?

Answer 20

Permission from the court to continue with the statutory derivative claim - s.261(1) CA 2006

Question 21

If a shareholder cannot establish a prima facie case to the court when pursuing a statutory derivative claim what must the court do and what is the authority for this?

Answer 21

Court must dismiss the application and make any consequential order it considers appropriate - s.261(2) CA 2006

Question 22

What is the purpose of requiring a shareholder to establish a prima facie case for a statutory derivative claim? Is it a difficult hurdle to overcome?

Answer 22

Purpose is to screen out unmeritorious or weak claims before the defendant becomes involved. No, it is not difficult - nearly all derivative applicants have successfully established a prima facie case

Question 23

If a shareholder establishes a prima facie case what do the court then consider (the mandatory test) to decide whether permission to continue the claim should be granted? What is the authority?

Answer 23

s. 263(2) CA 2006 - the court MUST refuse permission if any of the following conditions apply:
- a person acting in accordance with s.172 (duty to promote the success of the company for the benefit of its members) would not seek to continue the claim
- where the cause of action arises from an act or omission that is yet to occur, but the act/omission has been authorised by the company
- where the cause of action arises from an act or omission that has already occurred, that the act or omission was authorised by the company before it occurred, or has been ratified by the company since it occurred

Question 24

Which case is authority for the fact that refusal of permission to continue with a statutory derivative claim under s.263(2) because a director acting in accordance with s.172 would not seek to continue it, will only be refused on this ground if no director would seek to continue the claim?

Answer 24

Iesini v Westrip Holdings Ltd [2009]

Question 25

If none of the conditions in s.263(2) apply, what else must the court consider before granting permission to continue a statutory derivative claim? What are the authorities for this?

Answer 25

S.263(3) CA 2006:
(A) whether shareholder is acting in good faith
(B) the importance to which a person under a s.172 duty to promote the success of the company would attach to the action
(C) whether the wrong could be authorised or ratified
(D) whether the company has decided not to bring the claim
(E) availability of another remedy

S.263(4):
Have particular regard to the views of independent members of the company - e.g. Independent non-executive directors

Question 26

If permission to continue a statutory derivative claim under s.260 CA 2006 is refused then what happens?

Answer 26

The application is dismissed

Question 27

What happened in Mission Plc v Sinclair [2008] and what is the principle?

Answer 27

Two directors who were dismissed by company as failed to submit financial information and to meet financial forecasts brought statutory derivative claim. Permission to continue claim denied as although thought they were acting in good faith, it held that director acting in accordance with s.172 would not seek to continue claim and damage claimed was speculative. Court also held that the Sinclair’s weren’t claiming anything that could not be recovered via a personal claim under an unfair prejudice claim (s.994 CA 2006)

Question 28

In which case did the court refuse to grant permission to continue a s.260 statutory derivative claim as the director had sought professional advice before making a decision and why was this important?

Answer 28

Iesini v Westrip Holdings Ltd [2009]
It was important for the court as they held the director’s conduct could not then amount to negligence as it was not intentional as sought advice and had taken steps to mitigate the loss

Question 29

Where is the authority for the fact that a member can apply for a remedy for unfairly prejudicial conduct?

Answer 29

S.994 CA 2006

Question 30

What do you need to show for a s.994 unfair prejudice claim?

Answer 30

(I) is the conduct complained of unfairly prejudicial?

(II) is it unfairly prejudicial to the interests of the members?

Question 31

What does the interests of members refer to under a s.994 Unfair Prejudice claim?

Answer 31

Can be very broad, not just their strict legal rights or those in the constitution of the company. In quasi-partnerships the court has been willing to accept an informal expectation that will be involved in management. Court can have regard to legitimate expectations or wider equitable considerations.

Question 32

Which case is authority for the fact that members may legitimately expect to be employed as directors, have a say in management or receive some return in the form of dividends for a s.994 Unfair Prejudice claim?

Answer 32

Re A Company [1986]

Question 33

In which case did the court hold that a CEO could not have a legitimate expectation to remain involved with the club after Alan Sugar obtained control of the company, so this could not amount to a s.994 unfair prejudice claim?

Answer 33

Tottenham Hotspur Plc [1994] - little evidence to support this claim

Question 34

Which case is authority for the fact that to claim a legitimate expectation for a s.994 unfair prejudice claim you have to show that your expectations were based on something? What were the facts of the case?

Answer 34

Re Saul D Harrison [1994] 
Shareholder in company with class C shares entitling her to get dividends and share of money upon liquidation but not to vote. Company operating at a loss so she complained but was ignored. Court held nothing unfairly prejudicial as no expectation because of type of share.

Question 35

What is Lord Hoffman’s guidance for defining legitimate expectations under a s.994 unfair prejudice claim? Which case did they come from?

Answer 35

O’Neill v Phillips [1999]

1. There must normally be a breach of terms on which the member joined the company
2. Petitioner must be able to point to some wider equitable agreement or understanding
3. Probably a mistake in previous cases to refer to ‘legitimate expectations’ to describe right of petitioner to rely on equitable principles
4. S.459 (old s.994) does not allow petitioner to exit company at will - there must be a fault element on the part of the defendant
5. The unfair prejudice must be suffered by the petitioner in his capacity as a member and not in another capacity

Question 36

What were the facts and ruling in O’Neill v Phillips [1999]?

Answer 36

Director of company gave worker 25% of shares and appointed him as director. Phillips retired from the board and originally profits split 75:25 in favour of P but later amended for equal share. Company experienced financial difficulties so P came back to oversee management. P claimed to be once again entitled to 75% profits so O’Neill left and commenced unfair prejudice claim.

Ruling - P had not promised that would always receive 50% and at most promised only whilst acting as de facto director. P had not breached constitution nor was there anything to give rise to equitable considerations of Lord Hoffman so O’Neill’s action failed.

Question 37

What does O’Neill v Phillips establish concerning members’ interests under a s.994 unfair prejudice claim?

Answer 37

In the majority of cases the members’ rights and interests will be the same and will be set out in the constitution. But in those concerning quasi-partnership companies equitable considerations may arise that widen the members’ interests beyond those found in the constitution.

Question 38

What are some examples of conduct that the courts have held to be unfairly prejudicial?

Answer 38

• removal and exclusion from management without a legitimate reason
• excessive remuneration for directors
• non-payment of dividends or payment of low dividends (Re Sam Weller & Sons Ltd [1990]
• failure to hold meetings (Re Harmer)
• serious mismanagement (Re Macro (Ipswich) Ltd [1994]) but note that normal mismanagement will not suffice (Re Elgindata Ltd - not getting right price for assets was just bad judgement)

Question 39

Who can petition the court for a s.994 unfair prejudice action? What are the authorities?

Answer 39

• a member of the company (s.112 CA 2006)

- a number of members as long as they do not together hold a majority of votes (Re Legal Costs Negotiators Ltd [1999])

Question 40

When can a shareholder/s bring a s.994 unfair prejudice claim and what are the authorities?

Answer 40

• can be before shareholder joined company (Lloyd v Casey [2002])
• can claim against a person who has already sold their shares (Re A Company [1986])
• but once a claimant has sold his own shares and is therefore no longer a member no claim can be brought (Re A Company [1986])

Question 41

In which case did the court hold that for a s.994 unfair prejudice claim where there is a conflict it is important who started it? What were the case facts?

Answer 41

Re London School of Electronics Ltd [1986]
Teacher in school disagreed with other shareholders making agreement to approve undergraduate course in US college. Shareholders fired him for acting against interests of the company as told students about it. Court held that was basis for UP claim, and that first action of shareholders agreement with US college was important as it caused the other actions and so teacher got compensated.

Question 42

In which case did the directors of a successful company decide not to give dividend payments for 37 years, which the court held amounted to unfairly prejudicial conduct under s.994?

Answer 42

Re Sam Weller & Sons Ltd [1989]

Question 43

In which case did the court hold that serious mismanagement could amount to unfairly prejudicial conduct, but hold that the fact that the managers did not consult the auditors for professional advice was not held as a reason for unfair prejudice?

Answer 43

Re Macro (Ipswich) Ltd [1994]

Question 44

In which case did the court demonstrate the importance of the requirement that the conduct needs to be unfair and prejudicial for a s.994 unfair prejudice claim? What were the facts?

Answer 44

Grace v Biagioli [2005]
Petitioner was a member and director of the company. He was removed from office because he was attempting to set up a rival company. Court held that conduct complained of (removing him) was prejudicial but given the obvious conflict of interest that his actions created it was not unfair.

Question 45

What sort of remedies could a court order for a successful unfair prejudice claim? Where is the authority for this?

Answer 45

S.996(2) - non-exhaustive list that the court could make:

• an order regulating conduct of company’s affairs in the future
• an order requiring the company to refrain from doing an act, or to perform an act that it has failed to perform
• an order requiring the company not to make any changes to its articles without the court’s permission
• an order requiring the petitioner’s shares to be purchase by the company or by another member (share purchase order)

Question 46

Which two cases demonstrate that an unfair prejudice claim under s.994 CA 2006 can be costly and time-consuming?

Answer 46

Re Freudania Ltd - hearing took 165 days with respondent awarded costs of £2 million
Re Elgindata Ltd [1991] - dispute concerned shares only worth £24,600 but legal costs exceeded £320,000

Question 47

Where is the authority for the fact that a shareholder can petition the court for a winding up order and on what grounds can this be made?

Answer 47

S.122(1)(g) Insolvency Act 1986 - where court is of the opinion that it is just and equitable that the company should be wound up

Question 48

Where is the authority for the fact that the court will not grant a winding up order under s.122(1) IA 1986 where an alternative remedy is available (e.g. S.994 unfair prejudice claim) but the petitioner unreasonably refuses to pursue?

Answer 48

S.125 IA 1986

Question 49

In which case did Lord Cross require that for a petition to wind the company up under s.122(1) IA 1986 the petitioner must come to court with clean hands and that he cannot insist on the winding up if the breakdown in confidence appears to have been due to his misconduct?

Answer 49

Ebrahimi v Westbourne Galleries [1973] at 387

Question 50

What are the facts and the ruling from Ebrahimi v Westbourne Galleries Ltd [1973]?

Answer 50

E and N formed partnership, some years later they incorporated company and became directors with N’s son also becoming director. N and son used shares to vote E out of office after dispute. E petitioned for winding up order under s.122(1)(g) IA 1986.

HoL held that company was clearly a quasi-partnership and formed on basis that the shareholders would be involved in management. As this understanding was breached the court ordered the winding up of the company.

Question 51

In what instances are the courts likely to order a winding up under s.122(1)(g) IA 1986 and what are the authorities for the examples?

Answer 51

• where company is set up for a fraudulent purpose (Re Thomas Brinsmead & Sons Ltd [1897])
• where it becomes impossible to carry on the business for the reason of the company’s formation (Re German Date Coffee Co [1882])
• where there is a justifiable loss of confidence in the company’s management (Loch v John Blackwood Ltd [1924])
• where the company is deadlocked and unable to make any decisions (Re Yenidje Tobacco Co Ltd [1916])
• exclusion from participation in small private company, where there was a relationship based on mutual confidence (Ebrahimi v Westbourne Galleries Ltd [1973])

Question 52

What were the facts and ruling of Re Thomas Brinsmead & Sons Ltd [1897]?

Answer 52

Family feud so some left to create a new company using the previous company’s name in order to defraud clients and steal them from previous company. Court held that equitable to dissolve the companies under s.122(1)(g) IA 1986 order for winding-up as no reason to exist other than defrauding the clients.

Question 53

What happened in the case of Re German Date Coffee Co (1882) and what was the ruling?

Answer 53

Company had been formed to obtain German patent to manufacture coffee from dates. Application for patent was refused. The court held that the petition for winding-up of the court under s.122(1)(g) IA 1986 was allowed as the purpose for which the company business was set up was now impossible.

Question 54

What happened in the case of Re Yenidje Tobacco Ltd [1916] and what was the ruling?

Answer 54

The company had two shareholders with an equal number of shares and were both directors. They disagreed over how the company should be run and there were no provisions in the Articles of Association as to how a deadlock should be broken. The petition for winding-up of the company on just and equitable grounds (s.122(1)(g) IA 1986) was granted as the company was unable to make decisions on any matter.

Question 55

There is no time limit for seeking relief of unfairly prejudicial conduct but in which case did the court refuse to grant relief nine years after the event?

Answer 55

Re Grandactual Ltd

Question 56

What is the statutory authority for the fact that the court upon hearing a petition for unfair prejudice under s.994 can authorise the bringing of a derivative claim instead?

Answer 56

S.996(2)(c) CA 2006

Question 57

What happened in Re Ghyll Beck Driving Range Ltd and what was the outcome?

Answer 57

Joined 3 others to be equal partners in a joint venture. All were to take part in management but petitioner thought others were not pulling their weight financially or managerially so resulted in quarrel. After this he was excluded from management.
Court held that he was unjustifiably excluded so order the other three to purchase his shares for one quarter of the going-concern value of the company

Question 58

What happened in Re Phoenix Office Supplies Ltd and what was the outcome?

Answer 58

One of three members of a quasi-partnership announced that he was leaving the company to start a new life which he did within a few weeks. The fact that the other directors then treated him as having resigned his directorship and refused him access to management of the business was not unfairly prejudicial. So the other two could not be ordered to buy his shares at their full proportionate value.

Question 59

What do Keay and Loughrey (2008) argue about the statutory derivative action?

Answer 59

Historically the courts have been biased against derivative litigation.
They suggest that s.260 could provide a better balance.
UK provisions are narrower than Australian so less likely to get permission so no wave of litigation should be expected.

Question 60

What does Reisberg (2009) argue about the statutory derivative action?

Answer 60

It broadens the circumstances in theory that a claim could be brought but in practice unlikely as courts have wide discretion over whether claim proceeds.
There is nothing new in the procedure that will convince a shareholder that they are better off litigating the case on behalf of a company than selling their shares.