Unfair prejudice in United Kingdom Company Law

Abstract

--It is common that the majority shareholders in a corporation take action that unfairly prejudices the minority. A majority shareholder occupies a dominant position in the decision-making process of the company's affairs and can control the company with the principle of majority rule. In the process of company development, the interests of the majority shareholders may diverge from the interests of the company. In this case, the majority of shareholders may engage in unfair prejudice conduct that harm the interests of the company and minority shareholders for their own benefit. Consequently, to some extent, the principle of majority rule provides the possibility for the controlling shareholders to abuse voting rights, which often constitutes damage to the interests of minority shareholders. In addition, due to the reliance on the controlling shareholder, the directors tend to only take into account the interests of the majority shareholders, with the result that ignore the rights and interests of noncontrolling shareholders. Especially in private companies, minority shareholders not only cannot sell their shares in the stock exchanges without restrictions to exit the company, but also may be subject to more severe oppression by the actual controller of the company. 5 When minority shareholders cannot obtain relief within the company, it is necessary for aggrieved shareholders to bring an action against the majority shareholders to protect their rights. However, under the rule in Foss v Harbottle, shareholders only be allowed to sue if they meet the exceptions. Due to the limited application scope of these exceptions, the aggrieved shareholders are often unable to get timely and effective relief in practice. In response to this problem, statutory unfair prejudice provisions are introduced to balance the interests of majority shareholders and minority shareholders, and to prevent shareholder oppression in corporate governance. It emphasizes judicial intervention to protect the legitimate interests of shareholders. Compared with just and equitable winding up and derivative action, the unfair prejudice is regarded as a mechanism for minority protection as it covers a variety of remedies and leaves the court with greater discretion. _________________________________________________________________________________________________ 1. THE BACKGROUND OF UNFAIR PREJUDICE 1.1. The History of Unfair Prejudice The unfair prejudice provisions originated from the modification of the alternative remedy to winding up in cases of oppression provided in the Companies Act 1948. According to the Section 210(1) of the Companies Act 1948, any member of a company who complains that the affairs of the company are being conducted in an oppressive manner to 1 Derek French, Stephen W Mayson and Christopher Ryan, Mayson, French & Ryan On Company Law (2017-2018 edn, Oxford University Press 2017) 572 2 Sarah Worthington and L. S. Sealy, Sealy and Worthington's Text, Cases and Materials in Company Law (11th edn, Oxford University Press 2016) 715 3 Derek French, Stephen W Mayson and Christopher Ryan, Mayson, French & Ryan On Company Law (2017-2018 edn, Oxford University Press 2017) 575 4 Zhong Xing Tan, 'Unfair Prejudice from beyond, beyond Unfair Prejudice: Amplifying Minority Protection in Corporate Group Structures' (2014) 14 J Corp L Stud 367 5 Sarah Worthington and L. S. Sealy, Sealy and Worthington's Text, Cases and Materials in Company Law (11th edn, Oxford University Press 2016) 722 6 Foss v Harbottle, [1843] 3 WLUK 93 7 Paul L Davies and Sarah Worthington, Gower’s Principles of Modern Company Law (10th edn, Sweet & Maxwell 2016) 960 8 Paul L Davies and Sarah Worthington, Gower’s Principles of Modern Company Law (10th edn, Sweet & Maxwell 2016) 964 9 Companies Act 1948, section 210(1) Asian Journal of Humanities and Social Studies (ISSN: 2321 2799) Volume 9 – Issue 1, February 2021 Asian Online Journals (www.ajouronline.com) 28 some part of the members may make an application to the court by petition for an order under this section. However, for the term “oppressive”, the House of Lords in Meyer v Scottish Cooperative Wholesale Society Ltd, interprets that it meant “burdensome, harsh and wrongful”. The interpretation of oppression has set a higher threshold for this provision, which has led to few applications in practice. To make this clear, it recommended the use of the term “unfairly prejudicial”, which Parliament somewhat adopted in Section 75 of the Companies Act 1980. This section is reproduced in the Section 459 of the Companies Act 1985 and Section 994 under the Companies Act 2006. 1.2. The Concept of Unfair Prejudice a. At the Legislative Level The statutory unfair prejudice provisions are provided in Sections 994 and 996 of the Companies Act 2006. To be specific, when the affairs of the company are being or have been conducted in a manner that is unfairly prejudicial to the interests of members, the aggrieved shareholders could make an application to the court according to the Section 994 for the remedy under the Section 996. The defining feature of the unfair prejudice is that it is completely vague, with the result that the court is capable of interpreting the provisions as they felt would be fair. After hearing a case, the court could make an order as it thinks fit under Section 996. Based on this, the judge is empowered with wide discretion to determine what constitutes an unfair prejudice conduct to the interests of members and what remedies should be given to the aggrieved shareholders. It should be noted that the purpose of Sections 994 and 996 of the Companies Act 2006 is not to interpret the concept of "unfair prejudice ", but to recognize the litigation rights of shareholders based on it. b. At the Judicial Level What is the unfair prejudice conduct? The Companies Act 2006 does not answer this question. As a result, there is no clear standard for determining the conduct and remedy of the unfair prejudice in statute law. However, in judicial practice, the judge did not give up the attempt to analyze this concept. For example, in O'Neill v Phillips, Phillips was its sole shareholder and director. He appointed O’Neill to the board of directors and gave him a 25% shareholding in the company. They discussed that O’Neill would take over the sole management of the company, and he was accordingly allowed a 50% share of the profits of the business. Shortly afterwards, Phillips retired and leaved O’Neill as de facto managing director. However, the company was in trouble, and Phillips resumed control of the company and repudiated the profit-sharing agreement. O’Neill filed a petition, arguing that Phillips’ conduct amounted to unfair prejudice. Lord Hoffmann noted that the background against which the concept of fairness has the following two features. On the one hand, unless there has been some breach of the articles of associations or shareholder agreements, a member of a company will not generally be entitled to complain of 10 Ibid. 11 Derek French, Stephen W Mayson and Christopher Ryan, Mayson, French & Ryan On Company Law (2017-2018 edn, Oxford University Press 2017) 587 12 Meyer v Scottish Cooperative Wholesale Society Ltd, [1959] AC 324 13 Companies Act 1980, section 75 14 Companies Act 1985, section 459; Companies Act 2006, section 994 15 Companies Act 2006, section 994, 996 16 Sarah Worthington and L. S. Sealy, Sealy and Worthington's Text, Cases and Materials in Company Law (11th edn, Oxford University Press 2016) 727 17 Arthur R Pinto, 'Protection of Close Corporation Minority Shareholders in the United States' (2014) 62 Am J Comp L Supp 361 18 Companies Act 2006, section 996 19 Companies Act 2006 20 O'Neill v Phillips, [1999] 1 W.L.R. 1092 21 Ibid. 22 Ibid. 23 Ibid. 24 Ibid. 25 Ibid. 26 Ibid. Asian Journal of Humanities and Social Studies (ISSN: 2321 2799) Volume 9 – Issue 1, February 2021 Asian Online Journals (www.ajouronline.com) 29 unfairness. On the other hand, for the sake of equitable considerations, it is unfair that conducting the affairs of the company to rely on their strict legal powers under the articles of associations or shareholder agreements in some cases. In Grace v Biagioli, the Court of Appeal further clarified Lord Hoffmann’s views on the concept of unfair prejudice. Judge Patten stated that an assessment that conduct is unfair should take into consideration of the legal background of the corporate structure. This will usually take the form of the articles of association and any collateral agreements between shareholders which identify their rights and obligations as members of the company. Both are subject to established equitable principles which may moderate the exercise of strict legal rights when insistence on the enforcement of such rights would be unreasonable. In other words, it will not constitute unfair conduct in accordance with the provisions of its articles or any other relevant and legally enforceable agreement, unless it would be inequitable for those agreements to be enforced in the particular circumstances under consideration. Therefore, the concept of unfair prejudice must be applied judicially and the remedy which it is given by the court must be based upon equitable principles. The defining feature of the Section 994 action is that it is completely vague, which empowers the courts to interpret the provisions gradually as they felt would be fair. In other words, the concept of unfair prejudice itself does not require elemental interpretation, as long as in a specific case, the court can decide whether to intervene in the affairs of the company and provide remedy to the aggrieved shareholders. The concept of unfair prejudice free the court from technical considerations of legal right and confer a wide power to do what appeared just and equitable. 2. KEY FEATURES OF UNFAIR PREJUDICE