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Law for Business

Knowhow - guidance - precedents

28 OCT 2015

The multiple derivative claim takes root

The multiple derivative claim takes root

In July 2015, the High Court in Bhullar v Bhullar [2015] EWHC 1943 (Ch) granted permission for a multiple derivative claim to proceed. The grounds on which it decided to do so are of some interest, but the real significance of the case lies in the mere fact that the court acknowledged that multiple derivative claims are, in principle, part of the English legal system. That view is in accordance with recent authority, and confirms the procedure’s status as an established means by which an aggrieved minority shareholder can seek redress against a director who has breached his duties.

It is true that the multiple derivative claim remains an exotic beast, in that even now it is encountered in reported cases only very rarely, but the indications are that it is growing in popularity. Minority shareholders and their advisers will, therefore, become increasingly aware of it, and directors, in turn, need to be aware that the risk that they will be held to account for any breach of duty which they may commit has increased.

The derivative claim


A director owes his statutory duties – such as his duty under section 172 of the Companies Act 2006 to promote the company’s success and his duty under section 174 to exercise reasonable care and skill – to the company. That being the case, any breach of the duties constitutes a wrong done to the company, and not to individual shareholders or, for that matter, creditors, and can therefore be pursued by the company alone.

In most companies, decisions concerning possible litigation are a matter for the board, so it is generally for the board to decide whether to bring proceedings against a director in respect of an alleged breach or to deal with the transgression in some other way.

In the normal course of events, this arrangement works well, but in some instances it can result in injustice. Take the case of a family company in which an outside investor has a 5% stake and no representation on the board. If one of the directors breaches his duties, say by diverting a major corporate opportunity to himself, his fellow board members, motivated by feelings of loyalty towards him, may decide that the company should not bring proceedings against him, irrespective of the fact that it would probably be in its best interests to do so. The company law regime recognises that in such a situation the minority shareholder is in an invidious position, and as long ago as the second half of the 19th century accepted that in exceptional situations, when the company’s internal machinery has failed to function properly, a minority shareholder may, in effect, usurp the power of the board and himself bring an action against a director for a breach of duty in the company’s name. Such actions are known as derivative actions or, to use the modern terminology, derivative claims.

The multiple derivative claim


A multiple derivative claim is a claim brought against a director of a subsidiary company not by one of the subsidiary’s own shareholders, but by a shareholder of a company higher up the corporate chain. Building on the example above, if the family company in which the outside investor holds a 5% stake is merely a holding company, whose business is carried on by a number of wholly-owned operating subsidiaries, an ordinary derivative claim could not be used by the investor to pursue a director of one of the subsidiaries in respect of a breach of his duty to that company. This is because an ordinary derivative claim is available only to a shareholder of the wronged company, and the investor has no stake in the subsidiary in question. In fact, however, English law does permit the investor to act in the subsidiary’s name, and such claims are known as multiple (or double) derivative claims.

Whereas the ordinary derivative claim is, as noted above, a very well established procedure, it was not until 2013 that an English court undertook a full examination of the law on multiple derivative claims and expressly confirmed that they do, indeed, exist. The scenario in Universal Project Management Services Ltd v Fort Gilkicker Ltd [2013] EWHC 348 (Ch) might at first glance appear to be somewhat different from that in the example above, but in substance it was, in fact, very similar:

  • two business partners, a Dr Frischmann (acting through a corporate vehicle by the name of Universal Project Management Services Ltd) and a Mr Pearce, were equal participants in a limited liability partnership which owned a company
  • the board of the company consisted of Dr Frischmann and Mr Pearce
  • UPMS alleged that Mr Pearce had breached his duties as a director of the company
  • clearly, Mr Pearce would be unlikely to allow the company to bring proceedings against himself directly or to allow the LLP to bring an ordinary derivative claim against himself
  • UPMS sought to bring a multiple derivative claim against Mr Pearce in the name of the company in its (ie UPMS’s) capacity as a member of the LLP.

The first question for the High Court was whether such an action had historically been available as a matter of English law. Briggs J identified four cases in which the court had accepted that multiple derivative claims were available at common law, but noted that in none of them had the issue actually been discussed. He considered the matter and concluded as follows: “In my judgment the common law procedural device called the derivative action was, at least until 2006, clearly sufficiently flexible to accommodate as the legal champion or representative of a company in wrongdoer control a would-be claimant who was either (and usually) a member of that company or (exceptionally) a member of its parent company where that parent company was in the same wrongdoer control.”

The second question for the court was whether the common law multiple derivative claim had survived the introduction by the Companies Act 2006 of provisions governing derivative claims. On this point, Briggs J felt that whilst the ordinary derivative claim was now regulated by the statute, the multiple derivative claim continued to be available at common law.

Although English law does, therefore, cater for both the ordinary derivative claim and the multiple derivative claim, neither claim may proceed without the court’s permission. Briggs J duly applied the common law rules concerning the granting of permission and concluded that he should allow UPMS to proceed with its multiple derivative claim.

In the period between the decision in the Fort Gilkicker case and the recent decision in Bhullar v Bhullar, the courts referred to the concept of a multiple derivative claim on at least three occasions. On two of those occasions – in Meerza v Baho [2014] EWHC 2773 (Ch) and Novatrust Ltd v Kea Investments Ltd [2014] EWHC 4061 (Ch) – the court appeared to accept that multiple derivative claims were available, although since neither case actually involved an application for permission to bring such a claim the matter did not receive detailed consideration. On the third occasion – in Abouraya v Sigmund [2014] EWHC 277 (Ch) – the proceedings concerned an application to bring a multiple derivative claim, and the court took the opportunity to express its opinion on Briggs J’s analysis of the law in Fort Gilkicker. Having noted that Briggs J had concluded that multiple derivative claims were available under English law, and were governed by common law rather than the Companies Act 2006, David Richards J commented as follows: “In view of the doubts expressed by some commentators on whether the decision in Universal Project Management Services Ltd v Fort Gilkicker Ltd is correct … I should say that I have considered the judgment of Briggs J and fully endorse both his conclusions and his reasoning.”

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Bhullar v Bhullar
[2015] EWHC 1943 (Ch)

The facts in Bhullar v Bhullar were as follows:

  • the case centred around a family-owned parent company (Bhullar Ltd) and its two wholly owned subsidiaries (Bhullar Bros Ltd and Bhullar Developments Ltd)
  • Inderjit Bhullar, a minority shareholder in the parent company, alleged that his brother, Jatinderjit Bhullar, had committed breaches of the duties which he owed to BBL and BDL in his capacity as a director of those companies
  • the alleged breaches concerned a number of payments made by BBL and BDL to a company owned by Jatinderjit and the transfer of a property from BDL to Jatinderjit
  • the composition of the board and shareholder base of each of the three companies was such that Jatinderjit was (or at least appeared to be) in a position to prevent them from taking action against himself in respect of the alleged breaches
  • Inderjit sought to bring a multiple derivative claim against Jatinderjit in the name of BBL and BDL in his capacity as a member of their parent company.

The first question which the High Court considered was whether multiple derivative claims were available in principle. The judge dealt with this matter succinctly. Having noted the decision in Fort Gilkicker, and the fact that it had been followed in Abouraya, he stated that he would “proceed on the basis that the court has jurisdiction to permit a double derivative claim”.

Having reached that conclusion, he went on to consider whether to grant permission for Inderjit to proceed with the claim in question. Although a discussion of the matters which a court will consider when deciding whether to allow a multiple derivative claim to proceed in any given case is beyond the scope of this article, two points may be made. First, the common law rules governing the circumstances in which a multiple derivative claim will be permitted on the facts are extremely complex; historically, the same rules applied to ordinary derivative claims, and the decision to codify the law on such claims in the Companies Act 2006 was based on a desire to introduce clarity into that difficult area. Second, it is worth noting, at least in passing, that whereas the court in Abouraya decided not to allow the multiple derivative claim to proceed on the facts, the judge in Bhullar concluded that he should give Inderjit permission to pursue the multiple derivative claim in respect of the alleged breaches of duty in relation to the payments to Jatinderjit’s company (although he refused to allow the claim concerning the transfer of the property to proceed). In other words, Bhullar, like Fort Gilkicker, is an example of a case in which the court not only accepted the concept of the multiple derivative claim in principle, but actually allowed such a claim to proceed.

Comment

The history of the multiple derivative claim is not distinguished. There would appear to be just nine occasions on which a court has taken the view, either expressly or impliedly, that the mechanism actually exists. Not all of those cases concerned an application to bring a claim, and in not all of those which concerned an application was the application successful. In short, there are only a handful of instances in English company law of a court granting permission to proceed with a multiple derivative claim.

Against that background, it might be thought that the claim does not deserve particular attention.

The reason it should not be ignored lies in the chronology of the sequence of nine cases. The earliest of the four cases identified by Briggs J in Fort Gilkicker as instances in which a court had accepted that the claim existed – Wallersteiner v Moir (No. 2) [1975] 1 QB 373 – dates back forty years, but the other eight cases were all decided since the turn of the century. What is more, the five most recent cases were decided between 2013 and 2015. This by no means constitutes a flood of multiple derivative claims, but it suggests that the claim has in recent years established itself as a recognised part of our legal system, and as such does, indeed, deserve the attention of the corporate world.

From the perspective of an investor who has a minority stake in a parent company, the rise of the multiple derivative claim is to be welcomed. It may be that in some cases where a director of a subsidiary has breached his duties it will be more appropriate to rely on some other means of seeking redress – the unfair prejudice remedy under section 994 of the Companies Act 2006, for example, may be an option - but the potential availability of the multiple derivative claim in such circumstances can only be a good thing.

Conversely, a director of a subsidiary should be concerned by the recent spate of cases, for they increase the risk that he will be held liable in respect of any breach of duty which he commits in his conduct of the company’s affairs.

Multiple derivative claims will not suddenly appear before the courts on a daily basis, for potential claimants will be aware that the grounds on which permission for a claim to proceed will be granted are fairly narrow. However, they now form part of the legal landscape, and their popularity as a means of seeking to hold directors to account may well continue to rise slowly but steadily over the coming years.

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