The Foss V Harbottle Rule

For years, the rule in Foss supported the functioning of directors much to the disliking of the growing voice of minority shareholder activism. Consequently, paying due regard to such voices Part 11 of the Companies Act 2006 (CA) introduced various grounds of derivative claims to diminish the force of Foss rule, and enhance minority shareholders protection. Section 260(3) of CA replaced the predecessor common law principles of derivate claims and extended the scope to include the breach of almost any director duty by default or mere negligence. Furthermore, Section 260(5) widened scope of the potential wrongdoers by extending definition of a director to include former directors, shadow directors and any person to whom shares of the company has been transferred. Nevertheless, the Act in s.261 set forth a framework regarding the admissibility of these claims that, in most instances, bar the claims. As per s.261(1), a member must go through a two-stage permission process to pursue a derivative claim at preliminary stage on the basis of submitted evidence the court determines if there is a prima facie case. If the court finds a prima facie case then it proceeds to the secondary stage i.e. discretionary stage, however, for this the Act has further set forth criteria and guidelines for the judges to consider when they exercise their discretion for the permission. Section 263(3)(a) of CA provides that the court must disallow the claim where the court is satisfied that by pursuing the claim the member is not acting in good faith, or as per s.263(3)(b) a notional director pursuant to s.172 of CA, will not seek to continue the claim. Moreover, the permission will also be refused where the company is likely to ratify the breach, or member can bring the action in his own name e.g. as infringement of personal rights under s.33 CA, or unfairly prejudicial conduct under s.994 CA (s.263(d) s.263(f)). Hence, if upon evaluation of evidence the answer to all the above-mentioned considerations turn out to be negative then the court may grant permission to continue the claim. Although, this procedure reassures extensive protection of minority shareholders but more often than not it disallows the claimant to pursue the action. For instance, in Franbar Holdings v Patel the majority shareholder diverted business from the company, and wrongfully suspended one of Franbar`s nominated directors. The permission to continue the claim was denied at discretionary stage because of two reasons first the court found that since there is no prospect of success and reassurance of enforceability thus a notional director will not pursue such claim, and secondly the court found that the wrong doing gives rise to a personal claim under s.994 CA thus the complainant should pursue an unfair prejudicial conduct proceeding. In Kiani v Cooper although the permission to proceed with the claim was granted, but the fact that the court only granted permission to the point of disclosure indicates that the courts will continue to apply a strict interpretation to the guidelines set out in the 2006 Act.