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Topic 4: Majority Rule and Minority Protection - Coggle Diagram
Topic 4: Majority Rule and Minority Protection
Introduction
When can a shareholder sue to complain about a wrong done to themselves or the company (such s a breach of director's duties)?
Derivative action
The company will get the benefit of any derivative action
The Majority Rule:
The democratic principle of majority rule:
Those who control more than half of the votes on the board have substantial power:
Foss v Harbottle
x
Allowing individual shareholders unrestricted standing to sue in respect of wrongs done to the company raises 2 potential problems:
(1) Multiplicity of actions
- a lot of actions for very similar wrongs done (
MacDougall v Gardiner
[1875])
(2) Vexatious litigation
- bringing any kind of litigation against someone to disrupt the process (
Edwards v Halliwell
[1950])
The Proper Claimant Principle
A 3rd party cannot bring an action on behalf of damage in some sense done to someone else
The person to whom the damage was done is the person who must bring the claim
Prudential Assurances Co Ltd v Newman Industries Ltd (No.2) [1982]:
'... A cannot, as a general rule, bring an action against B to recover damages or secure other relief on behalf of C for an injury done by B to C. C is the proper plaintiff because C is that party injured and therefore, the person in whom the cause of action is vested. This is sometimes referred to as the rule in
Foss v Harbottle
when applied to corporations, but it has a wider scope and is fundamental to any rational system of jurisprudence
Foss v Harbottle:
Proper Plaintiff Rule
Majority Rule
Rule stems from 2 related concepts:
a) that a company is a legal entity distinct from its shareholders
b) that a company cannot function effectively unless the will of the majority prevail
The Rule:
The proper plaintiff in an action in respect of a wrong alleged ot be done to a corporation is, prima facie, the corporation
Perfect balance? Yes
Because you need to balance the wrong that has been done to a group of shareholders/corporation and individuals in general don't like how the business is going
Exceptions:
Common law:
... need to let shareholders sue on behalf of the company in some situations and;
the need to limit these situations to avoid multiplicity of actions and vexatious litigation
1) Ultra vires or illegal
2) Special majorities
3) Personal rights:
Cannot be taken away by ordinary resolution
Wood v Odessa Waterworks Co
[1889]
Pender v Lushington
[1877]
The rule is relaxed in favour of the aggrieved minority. They are allowed to bring a minority sharehodlers action on behalf of themselves and all others
If they were denied by it, their grievances will never reach the court
Prudential Assurance Co Ltd v Newman Industries Ltd (No.2) [1981]:
There is an exception to the rule where what has been done amounts to fraud and the wrongdors are themselves in control of the company. In this case the rule is relaxed in favour of the aggrieved minority, who are allowed to bring a minority shareholders' action on behalf of themselves and all others. The reason for this is that, if they were denied that right, their grievances could never reach the court (at p211)
Statutory derivative action
:
S.260-269 Part 11 CA
S.260(1) CA 2006
A multiple derivative claim may be brought at common law
It has not been abolished by CA 2006 (
Universal Project Management Services v Fort Gilkicker Ltd
[2013])
Per CA 2006:
A proceeding by a member of a company:
In respect of a cause of action vested in the company, and
[a member bringing an action, deriving the grounds to bring the action from the company itself]
seeking relief on behalf of a company
When will a DA be allowed:
In respect of a cause of action specified in S.260 - 269 can a member bring a claim
Or in pursuance of a court order under S.996(2)(c)
Procedures
1st Test - The 2 Staged Procedure:
A check and balance to make sure that the claim proper and not vexatious
The
Prima Facie Test:
Yes:
The court may direct the company to provide evidence and may adjourn the proceedings to allow this evidence to be collected
No:
The court must dismiss the application and may take any consequential order it considers appropriate (CA 2006, S.261(2)
2nd Test - The Mandatory Test:
Have any of the conditions specified in S.263(2) been satisfied?
Yes:
Permission to continue the claim must be refused
No: The Discretionary Test:
In exercising its discretion, the court must take into account the factors specified in S.263(3) and have particular regard to the evidence specified in S.263(4)
Claimant has to show a prima facie case in order to get permission of the court to proceed
S.263: Explains when permission to proceed
must
be refused
[Its very difficult for the claimant]
Causes
S.260(3)
Wider than the old law in
F v H
The cause of action must be vested with the company
Must arise from an actual or proposed act or omission which involves negligence, default, breach of duty or breach of trust by director, former director or shadow director
Old Law:
Previously needed to show:
Fraud on the minority
Wrongdoers in control
New Law:
No need to show
fraud on the minority
Old cases now covered under new section (
Estmanco Kilner House Ltd v Greater London Council
(1982) or self-serving negligence
Daniels v Daniels
)
Situations
Wrongdoers in control
- Prudential Assurance Co Ltd v Newman Industries (No.2) [1982]:
The CA recognised that the term "control" ... embraces a broad spectrum extending from an overall absolute majority of votes at one end, to a majority of votes at the other endmade up of those likely to be cast by the delingquent himself plus those voting with him as a result of influence or apathy".
No need to show this now, but it would help
Independent organ
- Smith v Croft (No.2) [1988]:
Knox J: if an "independent organ" of the company believes such an action would not be in the interest of the company, the action could be property prevented
The problem is now avoided
Good faith:
Barret v Duckett
[1995] - Need to establish C is bringing the claim in good faith
Portfolios of Distinction Ltd v Laird
[2004]
The Impact of Part 11
Cases so far indicate a certain court reluctance to allow claims to proceed see:
Mission Capital Plc v Sinclair
[2008]
Franbar Holdings Ltd v Patel
[2008]
What cases show:
The views of the hypothetical member matter:
What does the objective hypothetical director think?
"If I was a member, would I be disadvantaged by this particular course of action?" "Is it justified?"
No dramatic changes so far:
Proper plaintiff and Majority Rule
Treshold Test and Informational disadvantages deter claimants
Co benefits, not the claimant
For a number of reasons:
The mere introduction of the statutory Derivative Claim has
not dramatically increased the litigation risk to directors nor improved the position of shareholders
Alternativees to Derivative Actions
Doctrinal confusions of F v H
And the possible court reluctance with Part 11
= means shareholders are often refused a remedy
S.994 CA 206
S.122(1)(G) IA 1986
S.122(I)(G) Insolvency Act 1986
:
Draconian in nature
When there is some irretrievable breakdown in the business where the company must cease to exist
Need for strong grounds to convince the court otherwise grant the remedy
Grounds for petitioning:
Exclusion from management of a quasi-partnership:
Ebrahimi v Westbourne Galleries
[1973]
There was a breakdown between the directors (an irretrievable breakdown), they just stopped operating and business could not continue
Although they were acting within their rights, E was successful
Failure of Substratum:
The different layers of a business (e.g. director and member level) essentially fail where there is something fundamentally wrong with them, causing the inability to conduct business
Cumberland Holdings Ltd v Washington H. Soul Pattinson and Co Ltd
[1977]:
Per Lord Wilberforce: "To wind up a successful and prosperous company and one which is properly managed must clearly be an extreme step and must require a strong case ot be made
Clean hands:
Ebrahimi Westbourne Galleries
:
'A petitioner who relies on the just and equitable clause must come to court with clean hands and if the breakdown in confidence between him and the other parties to the dispute appears to have been due to his misconduct he cannot insist on the company being wound up if they wish to continue
Re Yenidje Tobacco Co Ltd
[1916]:
"Having regard to the fact that the only 2 directors will not speak to each other, and no business which deserves the name of business in the affairs of the company can be carried on, I think the company should not be allowed to continue"
Treated as a Partnership
S.994 Companies Act 2006:
Petition by a company member:
(1)
A member of a company may apply to the court by petition for an order under this part on the ground that
(a) that the company's affairs are being or have been conducted in a manner that is unfairly prejudicial to the interests of members generally or of some part of its members (including at least himself), or
(b) that an actual or proposed act or omission of the company (including an act or omission on its behalf) is or would be so prejudicial
(2)
The provisions of this Part apply to a person who is not a member of a company but to whom shares in the company have been transferred or transmitted by operation of law as they apply to a member of a company
4 main issues:
Who can petition?
What is meant by the "company's affairs?
How is "unfairness" and "prejudice" determined?
What is meant by "interest" of a "member"?
What is unfair prejudice?
The conduct
must be (1) prejudicial
in the sense of causing prejudice or harm ot the relevant interest of members or some part of the members and
(2) it must be unfair
What counts as unfairly prejudicial conduct?
Examples:
(1) Exclusion from management in circumstances where there is a (legitimate) expectation of participation;
(2) The diversion of business to another company in which the majority shareholder holds a greater interest;
(3) The awarding by the majority shareholder to himself of excessive financial benefits;
(4) Abuses of power and breaches of the Articles of Association
Petitioner's conduct is relevant:
The conduct complained of may be found to be prejudicial but not "unfair"
The petitioner's conduct may also affect the relief granted by the Court
Who can petition?
Obviously the members - S.112 CA 2006
Individuals who transfer shares
They are not members on paper but they have legal right over shares and therefore can petition as though they are members
Test of Unfairness and Prejudice:
Conduct must be prejudicial
and
unfair
2 elements:
Prejudice
Unfairness
Objective test:
Re Saul Harrison Plc
[1994]
Per Hoffman LJ:
"Unfairly prejudicial" is deliberately imprecise language which was chosen by Parliament because its earlier attempt in S.210 of the Companies Act 1958 to provide a similar remedy had been too restrictively construed
Per Neill LJ:
'The words 'unfairly prejudicial' are general words and they should be applied flexibly to meet the circumstances of the particular case...'
S.994:
Conduct:
Prejudicial
Unfair
Objective test:
No need to show
bad faith
:
Re A Noble & Sons
Prejudice:
Unfair if
hypothetical reasonable bystander
would believe it to be unfair:
Re Saul Harrison; Re A Noble
'Harm in a commercial sense, not in a merely emotional sense' -
Re Unisoft Group Ltd
[1994]
Prejudice must be real, not technical or trivial:
Re Saul Harrison Plc
Leading Authority:
O'Neill v Phillips [1999]:
Per Lord Hoffman:
Member not entitled to compensation unless there has been:
(a) some breach of the terms
(b) some use of the rules in a manner which equity would regard as contrary to good faith
Fairness:
Fairness is judged in the context of a commercial relationship, the contractual terms of which are in the main, set out in the Articles of Association and in any shareholders agreement
Lord Hoffman:
Does not support 'legitimate expectation as the basis for a petition
O'Neill v Phillips is followed in numerous cases like
Re Guidezone Ltd
[2000]:
"Unfairness" is
...applying established equitable principles, the majority has acted, or is proposing to act, in a manner which equity would regard as contrary to good faith
BUT the case is criticised because:
It leaves no room for the alternative approach
It relies too much on formalised arrangements
Economic analysis, it is argued, supports the criticisms
What is the Rights/Interests of Members?
It is very broad, where e.g. loans can be considered a right or interests of the members
Context is important and reference to the Constitution is required, to see what is the agreed rights and interests of the members within the Constitution
Time limit:
In
Re Grandactual Ltd
[2005] it took them 9 years to bring a claim since the unfair prejudicial action were denied which implies that there is a set amount of time certainly less than 9 years
But is not set in stone
Chances of success:
It is not necessarily a high chance, but there is a higher chance of success compared to a petition to winding up or a statutory derivative claim
Its still relatively hard to bring a claim especially when the petitioner is a minority shareholder who has a higher burden of proof
Hence when advising there must be sufficient evidence to bring the claim and that it is as watertight as possible
Flexible Remedies
Examples given of possible specific remedies:
(a) regulate the conduct of the company's affairs in the future;
(b) require the company to refrain from doing or continuing an act complained of by the petitioner or to do an act which the petitioner has complained it omitted to do;
(c) authorise civil proceedings to be brought in the name and on behalf of the company by such person or persons and on such terms as the court may direct;
(d) provide for the purchase of the shares of any members of the company by other members or by the company itself, and in the case of a purchase by the company itself, the reduction of the company's capital accordingly: