Company Money Should Not Be Spent on Shareholder Disputes

23 August 2022

This legal update considers the case of King & Others v Kings Solutions Group Limited and Others [2022] EWHC 1099 (Ch) and one particular point which was highlighted in the judgment – whether company funds should be used to fund legal costs in a shareholder dispute.

Background

This appeal resulted from a protracted and intricate disagreement between the shareholders of Kings Solutions Group Limited (the "Company")

In March 2018, a petition under Section 994 of the Companies Act of 2006 was submitted. Kings Security Systems Limited ('KSSL'), part of the company group, was not included as a respondent in that petition. However, in August 2018, the petitioners' legal counsel asked the named respondents to approve the joining of KSSL since it was "sufficiently connected" to the alleged unfair prejudice to warrant holding it jointly and severally liable to purchase the petitioners' shares.

The Company and KSSL were both joined by consent in December 2018 on the grounds that i) joining was necessary to be bound by any judgment of the Court and/or to provide sufficient disclosure and (ii) both the Company and KSSL would take a neutral stance in the dispute. The petition would be properly revised, it was stated, but this never happened.

In January 2019, the judge approved a consent order for directions, amongst other things, which identified KSSL as the 6th Respondent. The respondents were additionally instructed to submit and serve points of defence by March 22, 2019, with the exception of the Company and KSSL. KSSL was listed as the 6th Respondent in court filings as the proceedings continued.

A letter on behalf of the petitioners was sent in June 2019 and claimed that since KSSL had submitted no points of defence, the petitioners were entitled to summary judgment against KSSL. This was contested, and in December 2019, the petitioners submitted an application to court asking for a ruling that would prevent KSSL from responding to the petition unless it filed points of defence within 28 days of the application's hearing.

Understanding Summary Judgment applications

A court will grant summary judgment if a claim has no reasonable prospects of success or if there is no other compelling reason the claim should proceed to trial. The aim is to save unnecessary resources being utilised to deal with a case that has poor prospects.

Understanding unfair Prejudice Petitions

A member or shareholder of a company may ask for relief in the following circumstances:

  • The management of the company's business is or has been unduly prejudicial to the interests of its members generally or of a portion of its members acting in their official capacities (including at least that member).
  • There has been an actual or proposed act or omission of the company that is, or would be, detrimental. (Section 994, Companies Act 2006 (CA 2006))

A typical remedy in these types of cases is for the other members of the company to purchase the petitioning member's shares.  Sometimes, the court may provide that the petitioning member’s shares are purchased by the company itself.  The court can also take other steps to regulate the company’s future affairs.

Unfair prejudice petitions may be filed by:

  • Company members (section 994 (1), CA 2006).
  • Non-members to whom shares in a company have been transferred by the execution and delivery of a valid instrument of transfer (section 994(2)).
  • Non-members to whom interests in a corporation have been legally transferred (such as the personal representative of a deceased member or the trustee in bankruptcy of a bankrupt member) (section 994(2)).

The unfairly discriminatory behaviour must be related to the membership interests of the members or shareholders. This condition won't be interpreted strictly or technically.

The Outcome

The judge rejected the application as being poorly thought out. KSSL had never been told to serve points of defence, thus the judge thought the case may be resolved on that basis alone. However, the judge also stated that it would not be proper to change the earlier court order in any case.

In his judgment, the judge referred to the case of Re Crossmore Electrical and Civil Engineering Ltd (1989) which confirms that a company's finances should not be spent on disputes between shareholders. The judge also highlighted, amongst other things, that companies should generally maintain their impartiality with regard to disputes between individual shareholders.

Comment

Whether company funds can be used to pay the legal costs associated with dealing with a shareholder dispute, is a point which comes up regularly in practice.

Company funds should not be used for advancing a shareholder’s dispute with another, but for furthering the objective of the company for all of its shareholders.

It is fairly standard for a company itself to be referred to, or named, in legal proceedings relating to shareholder disputes.  As stated above, a typical remedy in an unfair prejudice petition is for one of the shareholders to buy the other shareholder’s shares.  The company will need to undertake that transaction and so, by naming the company in the court proceedings, the company will be bound by the court’s instruction. Similarly, the company may be ordered to provide disclosure during the proceedings and that order can only be made where the company is explicitly referred to as a party to the proceedings.  However, just because the company is named a party to the court proceedings does not mean that the company can, or should, incur legal costs relating to those proceedings.

If a shareholder uses, or suggests that they will use, company funds to pay for legal assistance in a shareholder dispute then any advice obtained will belong to the company. It may also be appropriate to apply to court for an injunction to prevent a shareholder from using company funds, or to secure an order that the company funds are reimbursed.

This article is for information purposes only and should not be relied upon in place of legal advice.

© Melissa Worth, August 2022

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