Conflict is what happens when boardroom dialogue fails. The resultant effect of any conflict can have far-reaching effects on a company. What happens where a member is disgruntled by the decisions of some of the members of the company and yet the wrongs cannot be resolved by internal mechanisms due to majority rule? What should a minority shareholder do in such circumstances? The principal law governing protection of minority shareholders from controlling shareholders is the Companies Act, No. 17 of 2015 (together with attendant regulations) and complemented with common law principles.
Among the protections afforded by the existing legal regime to the minority shareholders include derivative action. The Companies Act, 2015 (Section 238) defines a derivative action as ‘proceedings by a member of a company in respect of a cause of action vested in the company; and seeking relief on behalf of the company.’
This is a remedy that avails to shareholders who would like to challenge oppressive conduct perpetrated by the controlling shareholders.
The rule established in Foss versus Harbottle (1843) was that, being a separate legal entity from its members, only the company could institute claims for any wrongs it suffered. To bring a derivative action under common law, one had to fall within the exceptions to this rule. Some of the exceptions include instances where the company had acted ultra vires; instances of fraud by the controlling shareholders inter alia. Further, Onguto J in Ghelani Metals Limited & 3 others v Elesh Ghelani Natwarlal & another [2017] eKLR defined a derivative claim as “a mechanism which allows shareholder(s) to litigate on behalf of the corporation often against an insider (whether a director, majority shareholder or other officer) or a third party, whose action has allegedly injured the corporation.” According to this case, derivative actions are aimed at enhancing accountability.
Following the enactment of the 2015 Act, the pursuit of derivative action is now a matter of judicial discretion rather than a matter of the exceptions under common law rules. The Court with proper jurisdiction being the High Court. the Act under Section 780 and 782 permits the court to intervene where the conduct of the affairs of the company is extremely prejudicial or oppressive.
Section 780 of the Companies’ Act further provides that a member may apply to Court for an order under section 782. Some of the grounds are that the company's affairs are being or have been conducted in a manner that is oppressive or is unfairly prejudicial to the interests of members; or an actual or proposed act or omission of the company is or would be oppressive or prejudicial.
The High Court in Joseph Munyoki Nzioka v Raindrops Limited & 3 others [2019] eKLR held that for a Plaintiff to succeed in a derivative claim, they must satisfy the following conditions:
- Be a member of the Company or a person who is not a member of the Company but to whom shares in the Company have been transferred or transmitted by operation of the law;
- The proceedings must be in respect to a cause of action vested in the Company;
- The proceedings must be seeking relief on behalf of the Company;
- The proceedings must be for protection of members against unfair prejudice brought under the Companies Act; and
- The proceedings are in respect of a cause of action arising from an actual or proposed act or omission involving negligence, default, breach of duty or breach of trust by a director of the company.”
Section 782 permits the Court to make orders in respect of the company as it may deem fit. Some of the Court Orders provided under Section 782 (2) include:
a. Regulation of the conduct of the affairs of the company in the future;
b. require the company—
i. to refrain from doing or continuing an act complained of; or
ii. to do an act that the applicant has complained it has omitted to do;
c. authorize civil proceedings to be brought in the name and on behalf of the company by such person or persons and on such terms as the Court directs;
d. require the company not to make any, or any specified, alterations in its articles without the leave of the Court;
e. provide for the purchase of the shares of any members of the company by other members or by the company itself and, in the case of a purchase by the company itself, the reduction of the company's capital accordingly.
Where a shareholder holds 50% of the shares which implies that they are not strictly speaking a minority, they have to demonstrate that the company has suffered a wrong caused by one of the other shareholders. The Court in David Langat v St Luke’s Orthopaedic & Trauma Hospital Limited & 2 Others [2013] eKLR reckoned that a strict requirement for the demonstration of majority or minority may occasion an injustice, and the Court would be abdicating its responsibility to do justice if it strictly insisted on this requirement.
Through a derivative claim, the minority shareholder(s) may be able to recover damages for the company and prevent wrongs against the company by the majority. Since the remedy traces its roots to the equitable maxim that he who comes to equity must come with clean hands, it is instructive that the conduct of minority shareholders pursuing this remedy should not be tainted. The claim should always be brought in good faith and in the best interests of the company.
Disclaimer
This article is intended for general knowledge only. It does not create an advocate-client relationship between any reader and Mboya Wangong’u & Waiyaki Advocates. For particular expert advice on any matter dealt with above, please contact us through
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