A Brief Reminder of the Separate Legal Personality of Companies, Limited Liability and Derivative Claims

Separate Legal Personality and Limited Liability

It is long-established under English law that private companies limited by shares have separate legal personality to their shareholders and directors; this means that companies have rights and obligations which are separate from their shareholders and directors (for example, a company can sue someone in its own name).

Private companies limited by shares also include a provision in their articles of association (see section 3 of the Companies Act 2006 (‘the CA 2006’)) which limits the liability of their shareholders to the amount of money, if any, unpaid on shares in the company owned by them (see Model Article 2 of the ‘Model articles for private companies limited by shares’), which means that the debts of the company are its own debts (not the debts of its shareholders or directors) and the company’s shareholders can only be compelled to pay the amount of money, if any, unpaid on any shares in the company that they own (if the company is otherwise unable to pay its debts) (subject to exceptions).

Directors’ Duties, The ‘Proper Claimant Rule’ and Section 260 of the CA 2006

Under section 170 of the CA 2006, the general duties of directors contained in Chapter 2 of Part 10 of the CA 2006 are owed by directors to the companies they are directors of. For example, under section 172(1) of the CA 2006, a given company director has a duty to promote the success of the company they are a director of by acting in the way that they consider, in good faith, would be most likely to promote the success of that company for the benefit of that company’s shareholders as a whole (and in doing so have regard to other matters stated under that section). The directors’ duty under section 172 of the CA 2006 is subject to any other legal rules (including common law rules) which may require a given director to consider or act in the interests of the creditors of the company they are a director of in certain circumstances.

Caselaw which is still relevant to the application of the general duties of directors established the ‘proper claimant rule’, that is, if a wrong is committed against a company (such as a director breaching one of their duties to a company they are a director of), the starting point is that such a company is the proper claimant to instigate a claim against such a director (subject to exceptions).

The ‘proper claimant rule’ can be problematic because the board of directors of a company (which may be made up of directors who also own the majority of shares in the company) may refuse to take action against one of its own directors (despite a minority shareholder wishing for the company to take action against a miscreant director).

However, section 260 of the CA 2006 helps to remedy any injustice arising from the ‘proper claimant rule’ by enabling a shareholder of a given company to instigate a ‘derivative claim’ (so named because the right to sue derives from the company’s right to sue) on behalf of such a company against a miscreant director. Under section 261(1) of the CA 2006, a shareholder must apply to the court for permission to continue their derivative claim.

Re Milestar Ltd [2023]

In the fairly recent High Court case of Re Milestar Ltd [2023], a shareholder (‘the Shareholder’) of Milestar Ltd (‘the Company’) sought permission to continue multiple derivative claims against a director of the Company (‘N’) and the executors of a deceased (former) director of the Company; for example, one of these derivative claims is for a declaration that a resolution of the directors of the Company, resolving to remove N from the Company’s bank mandate, was effective and that N be ordered to do what is necessary to implement it.

The Shareholder was granted permission to continue his derivative claims on behalf of the Company under section 261(4)(a) of the CA 2006, following the judge taking into account all of the relevant factors set out in section 263 of the CA 2006.

Under section 263(2)(a) of the CA 2006, the court must refuse a claimant permission to continue a derivative claim if a person acting in accordance with section 172 of the CA 2006 would not seek to continue the derivative claim, and under section 263(3)(b) of the CA 2006, in considering whether or not to grant permission for a claimant to continue a derivative claim, the court must take into account the importance that a person acting in accordance with section 172 of the CA 2006 would attach to continuing it. In Re Milestar Ltd [2023], the judge ruled that permission to continue with all the derivative claims should not be refused under section 263(2)(a) of the CA 2006, and that under section 263(3)(b) of the CA 2006 “…a director acting in accordance with s.172 would regard each of the claims as being a valid claim which the Company ought to pursue…” (Nicholas Caddick K.C.).

Clarkslegal’s Corporate lawyers can advise on the directors’ duties contained in the CA 2006; if a director upholds their duties under the CA 2006, the risk of claims being instigated against them will be minimised.