Choosing a remedy in shareholder disputes
Picking a path through Part 9 of the Companies Act 1993 (Act) poses some challenges to lawyers advising clients on shareholder disputes. It is not a problem due to paucity of choice. Rather, the issue is deciding on which one of the many routes to relief is most appropriate in the circumstances.
A common dilemma faced by practitioners in this area is choosing between the routes provided for in section 165 (derivative action), section 174 (oppression and prejudice remedy) and section 241(4)(d) (liquidation on just and equitable grounds). Ultimately, that choice will depend on the factual circumstances of each case and the nature of the relief sought. However, there are some factors which tend to point in one direction or the other, and this article focuses on those which are relevant to the choice between the section 165 and section 174 routes.
The derivative action and the oppression remedy
Under section 165, a shareholder or director may seek leave to bring a claim in the name, and on behalf of, the company. In exercising its discretion whether or not to grant leave, the court must have regard to the mandatory considerations listed in section 165(2) of the Act. In assessing these factors, the court will look at whether a prudent business person in the conduct of his or her own affairs would bring a claim. That test requires a consideration of the amount at stake, the apparent strength of the claim, the likely costs of the proceeding and the prospect of executing any judgment.
Shareholders (or former shareholders) may also bring a claim under section 174 where the affairs of the company have been, or are likely to be, conducted in a manner which is “oppressive, unfairly prejudicial and unfairly discriminatory”. The range of conduct falling within section 174 is extremely broad and will cover conduct which departs from the standards of fair dealing, viewed in light of the history and structure of the particular company and the reasonable expectations of its members. If the court thinks it is “just and equitable” to do so, it may make such orders as it thinks fit, including the range of orders listed in section 174(2).
The broad nature of the statutory rights and remedies under both these sections means that there is a substantive overlap between them. For example, breach of directors’ fiduciary duties can be enforced by way of a derivative claim in the name of the company, or may form a ground relied upon by a shareholder personally in seeking relief under section 174. Suggested below are some factors which can help practitioners navigate this overlap.
Disputes which involve an internal struggle for control between directors and shareholders more naturally fall within the rubric of section 174. For example, claims centring around breach of a shareholder agreement, or breach of the duties owed to shareholders contained in section 169(3) of the Act, may be cast as claims that the company’s affairs are being conducted in a manner which is oppressive and unfairly prejudicial to that shareholder within section 174(1).
The section 174 route is also more likely to be appropriate where the shareholders are in a relationship similar to that of a joint venture, and the breakdown is such that they can no longer continue working together. The loss of “trust and confidence” is a recurring theme in cases brought under section 174. Where shareholder deadlock is at the heart of the dispute, then section 174 is likely to be a better route than section 165. Similarly, cases involving deadlock around the boardroom table may be better resolved under section 174, although a shareholder will still have to show that the deadlock amounts to conduct which is oppressive or unfairly discriminatory within the meaning of section 174(1).
Remedy plays an important part in determining the pathway to redress. The broad power under section 174(2) to craft a remedy wherever it is “just and equitable” to do so makes section 174 the appropriate route for disputes where it is necessary to effect a “divorce” between the warring factions. Most commonly, such a divorce is achieved by way of a share buy-out order as provided for in section 174(2)(a), but the range of relief which may be ordered makes a claim under this section appropriate wherever the future ownership of the company is at stake.
Disputes which at their heart involve harm or damage to the company are, at least on their face, more appropriately pursued via a derivative action. For example, claims involving the taking of company business, or corporate opportunities, are best pursued in the name of the company, as it is that entity, as distinct from its shareholders and directors, which has suffered the direct harm. Similarly, claims against company officers which have resulted in loss to the company (for example, negligence or breach of contract claims) will be more appropriately enforced via the derivative action.
Breach of directors’ fiduciary and/or statutory duties owed to the company are more appropriately the subject of enforcement by the company. For example, where a director has improperly disclosed confidential company information to a third party, then a shareholder (with leave) may bring proceedings in the name of the company so as to sanction the director or otherwise recover the confidential information. However, where the consequence of the breach is felt by the shareholder personally (for example, the confidential information disclosed relates or refers to the shareholder), then it may be better to cast the claim as one of oppressive or unfairly prejudicial conduct pursuant to section 174.
Again, remedy is likely to heavily influence, if not determine, the appropriate pathway. A good check on whether or not section 165 is the right route is to consider whether success on the company’s claim will be the end of the matter. If the company’s claim will not resolve the underlying dispute between the parties, then section 174 proceedings may need to be issued – either in addition or in the alternative.
The cost of litigation is a key factor to bear in mind in advising a client on potential remedies. The derivative action has considerable advantage in this respect. Pursuant to section 166 of the Act, the costs of the proceeding are to be borne by the company unless it is “unjust or inequitable” for it to do so. That makes enforcement of directors’ duties much more accessible for the minority shareholder who may be unable to fund the litigation otherwise.
However, the court may order a shareholder to bear some or all of the costs of a proceeding, particularly if the shareholder will personally benefit from the claim, and that risk needs to be factored into the decision on the appropriate route. Similarly, the upfront cost in meeting the mandatory requirements in section 165 (for example, in briefing accountancy evidence on the quantification of likely loss) must also be weighed in the balance – particularly if the prospects of securing leave are marginal.
One or both?
In some cases it will be necessary to consider whether to commence claims under both statutory heads. The issue of concurrent proceedings arises in the context of an application for leave under section 165. The court is unlikely to grant leave where there would be duplication or a risk of double recovery between the section 174 proceedings and the proceedings to be commenced in the name of the company.
The courts have also declined to grant leave under section 165 if section 174 would provide a more “appropriate” route by which the dispute may be resolved. What the court regards as “appropriate” has not been expressly articulated, but the factors discussed above provide some guidance on what is likely to be seen as the “appropriate” domain of each statutory head.
It follows that where there is a multiplicity of claims in which both company and shareholder rights are at stake, and for which distinct remedial responses are required, then concurrent claims under both statutory heads should be pursued. However, the court is unlikely to allow this to happen where there is duplication between the two proceedings, or where section 174 provides a better forum within which to determine the dispute.
Whether a claim is best brought under section 174 or pursuant to leave under section 165 will depend heavily on the individual circumstances of the case. Internal company disputes tend towards the section 174 route, whilst enforcement of corporate rights will tend towards derivative actions under section 165. Remedy will also have a significant bearing on the choice of an appropriate pathway. The cost of the proceeding, and the possibility of concurrent litigation under both statutory heads, are further factors to consider when charting a course for a shareholder client.
Rebecca Edwards is a barrister at Bankside Chambers. She practices in the civil commercial litigation field with a particular focus on breach of contract claims and corporate disputes.
A webinar delivered by Rebecca Edwards for ADLS, entitled “Navigating Shareholder Disputes”, is available as a CPD On Demand item from www.adls.org.nz/cpd.