Company - Directors: enforcement of duties - Notes (1)

III. Directors: Enforcement of Duties

Who can take action against the directors?
- Foss v Harbottle rule – Proper Claimant rule: Company can sue
- Who in the company: should be majority of the directors
- If directors decide not to sue: shareholders by special resolution can instruct the board to take action to use (Table A, art 70)
- If the majority of shareholders decide not to sue: Ratification by simple majority not to sue (including overturning a board decision to sue)
=> An ordinary majority of shareholders can decide the company NOT to sue, even if the board wanted the director to be sued. But they cannot decided the company WILL sue.
- Exception to the above flow is the derivative action: The court allows a minority shareholder, or minority group of shareholders, to bring an action ‘on the company’s behalf’. Because the action is on the company’s behalf, the benefit of the action (if it’s successful) goes to the company)
=> Majority rule v Minority protection (derivative action)

Use of minority protection:
(i) Fraud on the minority
- Generous rule to wrongdoing directors: 1. misconduct ratifiable; 2. self-interested vote to ratification
- Minority protection is to ratify such ratification: Fraud is the misconduct that cannot be ratified
- Transaction approach: the characteristic of the wrongdoing is crucial to the success of a derivative action

Cook v Deeks 1916
- Classic example of fraud on the minority: The contract belonged in equity to the company. The breach of duty by the directors in diverting the contract to another company could not be cured by ratification. Using their voting majority to pass the resolution was a fraud on the minority. The 3 directors had to account for the profits they had made on the contract

- misappropriation of corporate property (and perhaps opportunities) amounts to fraud
- Breach of duty would have been ratifiable?

Pavlides v Jensen 1956
- Mere negligence of directors does not amount to fraud
- No benefits were accrued to the directors

Daniels v Daniels 1978
- Follow Pavlides v Jensen that mere negligence of directors does not amount to fraud, BUT self-serving negligence that benefits a director will be treated as falling within the fraud on the minority exception to the rule in Foss v Harbottle

(ii) That the wrongdoers are in control of the company
Prudential Assurance v Newman Industries No 2 1982
- Where the company has suffered a loss, a shareholder cannot bring an action to recover losses resulting from the diminution in the value of his shares, as this merely reflects the losses suffered by the company. The company is the proper plaintiff unless the shareholder can establish a distinct claim

Smith v Croft No 2 1987 (?)

(iii) Wallersteiner orders
Wallersteiner v Moir No 2 1975 (?)
Smith v Croft No 2 1987 (?)

(iv) Reforming derivative actions
- From a characteristic-based wrongdoing transaction based approach vs a ‘voting based approach

(v) Court sanctioned relief
- CA 1985 s727: available for director who has acted honestly and reasonably and ought fairly to be excused