1 Ross v.

Harbottle

COMPANY LAW-II ASSIGNMENT

EXCEPTIONS TO THE RULE OF FOSS V. HARBOTTLE

ARPIT RAJ

B.A.LL.B. (HONOURS)

ROLL NO. 999

The Foss v. Harbottle rule or proper plaintiff rule reflects the elemental legal principle that only the right-
holder is entitled to enforce the right. At common law, as a corollary of this principle, only when the general
meeting was incapable of acting in the corporate interest could a derivative action be brought. It followed from this
principle that wrongdoer control of the shareholder meeting was a pre-requisite to derivative litigation. The
Companies Act 2006 introduced what is considered to be a ‘new’ derivative action mechanism. Although the Act
is silent about the wrongdoer control requirement, it is widely understood to have abolished it. Central to this
understanding is the view that this is what Parliament intended, as supported by a view of the mischief of the Act
and by several ministerial statements.

However, careful attention to the extra-legislative record as well as to the rules on statutory interpretation
render this view of the mischief of the Act inaccurate and these statements of ministerial intent inadmissible.
Detaching our interpretation of the Act from reliance upon this record opens up unexpected possibilities when
combined with observations from recent authority which suggest that the Act’s reforms were not intended to abolish
the proper plaintiff principle. A compelling case can be made that wrongdoer control remains as threshold condition
to derivative litigation.

TABLE OF INDEX

I. INTRODUCTION ................................................................................................................................ 2

II. RULE IN FOSS V. HARBOTTLE ....................................................................................................... 3

III. BASIS OF THE RULE...................................................................................................................... 4

A. THE RIGHT OF THE MAJORITY RULE ....................................................................................... 4

B. THE COMPANY IS A LEGAL PERSON ....................................................................................... 4

C. THE PREVENTION OF MULTIPLICITY OF ACTIONS.................................................................. 4

D. THE COURT’S ORDER MAY BE MADE INEFFECTIVE ................................................................ 5

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1. Case Law ................................................................................................................................ 5

IV. ADVANTAGES OF THE RULE ....................................................................................................... 5

V. EXCEPTIONS TO THE RULE (PROTECTION OF THE MINORITY) ......................................... 6

A. ACTS WHICH ARE ULTRA VIRES OR ILLEGAL ......................................................................... 6

B. ACTS SUPPORTED BY INSUFFICIENT MAJORITY ....................................................................... 6

1. Case Laws .............................................................................................................................. 6

C. WHERE THE ACT OF MAJORITY CONSTITUTES A FRAUD ON THE MINORITY ....................... 7

1. Case Laws .............................................................................................................................. 7

D. WHERE IT IS ALLEGED THAT THE PERSONAL MEMBERSHIP RIGHTS OF THE PLAINTIFF

SHAREHOLDER HAS BEEN INFRINGED ................................................................................................ 8

E. WHERE THERE IS BREACH OF DUTY ........................................................................................ 8

1. Case Laws .............................................................................................................................. 8

F. OPPRESSION AND MISMANAGEMENT ...................................................................................... 8

VI. CONCLUSION ................................................................................................................................. 8

I. INTRODUCTION

Supremacy of the majority is the fundamental principle of company law. Generally, majority
members are entitled to exercise powers of the company and control its affairs. A group of
persons controlling 3/4th of the votes would have a complete control of the company, and a little
more than half the votes would give considerable influence allowing control over appointments
to the Board.

The Act lays down certain matters, which have to be decided by shareholders at a general
meeting by simple majority, whereas certain more important matters can be decided by a special
majority of 3/4th of the shareholders. Therefore, it is obvious the administration of a company
goes with the majority rule.

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3 Ross v. Harbottle

The principle of majority rule was recognized in Foss v. Harbottle1. It is also known as “proper
plaintiff principle”, which states that, in order to redress a wrong done to a company or to the
property of the company or to enforce rights of the company, the proper claimant is the
company itself, and the court will not ordinarily entertain an action brought on behalf of the
company by a shareholder.

II. RULE IN FOSS V. HARBOTTLE

The claimants, Foss and Turton, were shareholders in a company ‘The Victoria Park
Company’ which was formed to buy land for use as a pleasure park. The defendants were the
other directors and shareholders of the company. The claimants alleged that the defendants had
defrauded the company in various ways and in particular that the defendants had sold land
belonging to them to the company at exorbitant price. The claimants now asked the court to
order that the defendants make good the losses to the company.

It was held by Vice-Chancellor Wigram that since the company’s board of directors was still
in existence, and since it was still possible to call a general meeting of the company, there was
nothing to prevent the company from obtaining redress in its corporate character, and the action
by the claimants could not be sustained.2

In Foss v. Harbottle two minority shareholders in a company alleged that its directors were
guilty of buying their own land for the company’s use and paying themselves a price greater than
its value. This act of directors resulted in a loss of the company. The minority shareholders
decided to take action against the directors, but the majority shareholders in a meeting resolved
not to take any action against the directors alleging that they were not responsible for the loss
which had occurred.3

The court dismissed the suit on the ground that the acts of the directors were capable of
confirmation by the majority members and held that the proper plaintiff for wrongs done to the
company is the company itself and not the minority shareholders and the company can act only
1 Wedderburn, (1957) Cambridge Law Journal 194 at 196–8. For a general account of the origins and development of
English company law, see P. L. Davies (ed.), Gower’s Principles of Modern Company Law (6th ed., London, Sweet &
Maxwell, 1997), Chapters 2 and 3
2 This rule, and the Foss v. Harbottle rule which grew out of it, were entirely creations of the Chancellor. The

Chancellor had acquired almost exclusive jurisdiction over internal disputes in partnerships and companies. In the
case of companies, this jurisdiction was originally founded upon the trust created by the deed of settlement and, at a
later date, upon the remedies sought and the fiduciary duties of the directors.
3 Richards v. Davies, (1831) 2 Russ & M 347; and Harrison v. Armitage, (1819) 3 Hare 387

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through majority shareholders. The rationale in that line of reasoning is that a company is a
separate legal entity from the members who compose it and as such, if any right of the company
is violated, it is the company which can bring an action through the majority.4

It was held that, “If the thing complained is a thing which, in substance, the majority of the
company are entitled to do, or something has been done irregularity which the majority of the
company are entitled to do regularly or if something has been done illegally which majority of
the company are entitled to do legally, there can be no use in laying litigation about it, the
ultimate end of which is only that a meeting has to be called, and then ultimately the majority
gets its wishes.5

It was also held that, it is elementary principle of law relating to joint stock companies that
the court will not interfere with the internal management of the company, acting within their
powers and jurisdiction to do so. Again it is clear that in order to redress a wrong done to the
company or to recover monies or damages due to the company the action should prima facie be
brought by the company itself”.

III. BASIS OF THE RULE

A. THE RIGHT OF THE MAJORITY RULE

The court has said in some of the cases that an action by a single shareholder cannot be
entertained because the feeling of the majority of the members has not been tested and that they
may be prepared to waive their right to sue.6

B. THE COMPANY IS A LEGAL PERSON

The court has also said from time to time that since a company is a person at law, the action
is vested in it and cannot be brought by a single member.7

C. THE PREVENTION OF MULTIPLICITY OF ACTIONS

This situation could occur if each individual member was allowed to commence an action in
respect of a wrong done to the company.8

4 Mozeley v. Alston, (1847) 1 Ph 790; and Bailey v. Birkenhead Railway, (1850) 12 Beav 433 at 441
5 Id.
6 Gray v. Lewis, (1873) 8 Ch App 1035 at 1051
7 La Compagnie de Mayville v. Whitely, [1896] 1 Ch 788 at 807; Mozeley v. Alston, (1847) 1 Ph 790 at 799; and Lord v.

Copper Miners, (1848) 2 Ph 740

8 Australian Coal & Shale Employers’ Federation v. Smith, (1938) 38 SR (NWS) 48 at 53

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D. THE COURT’S ORDER MAY BE MADE INEFFECTIVE

The court’s order could be overruled by an ordinary resolution of members in a subsequent
general meeting.9

1. Case Law

a. MacDougall vs. Gardiner10 (1875)

The articles empowered the chairman with the consent of the members in a meeting to
adjourn a meeting and also provided for taking a poll if demanded by the shareholders. The
adjournment was moved and declared by the chairman. A shareholder brought an action for a
declaration that the chairman’s conduct was illegal. It was held that the action could not be
brought by the shareholder. If the chairman was wrong, only the company could sue. Lord
Melish said that if the thing complained of is a thing which in substance the majority of the
company are entitled to do, there can be no use in having litigation about it, the ultimate end of
which is only that a meeting has to be called and then ultimately the majority gets its wishes.

IV. ADVANTAGES OF THE RULE

Some of the advantages of the rule of Foss v. Harbottle are as follows:

1) Recognition of separate legal personality of a company. If a company has suffered

some injury, then it is not the individual members, rather it should be the company to
seek redress.
2) It preserves the right of the majority to decide how the affairs of the company shall
be conducted. It is the wish of the majority to prevail.
3) Multiplicity of futile suits can be avoided, that is, if every member were permitted to
sue everyone who has injured the company through a breach of duty, there would be
enormous waste of time and money.
4) Litigation at the suit of a minority is futile if majority do not wish it.

9 Pavlides v. Jensen, [1956] 7 Ch 565 at 579

10 MacDougall v. Gardiner, [1982] Ch 204 at 210–11

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V. EXCEPTIONS TO THE RULE (PROTECTION OF THE MINORITY)11

It is clear from Foss v. Harbottle rule that it is the majority rule that prevails in the company
management. Such powers may be misused to exploit the minority shareholders and to serve
personal ends. This may be clear in case of private companies where few individuals own
majority of shares. Palmer rightly pointed out that, “a proper balance of rights of majority and
minority shareholders is essential for the smooth functioning of the company”. To curtail the
power of the majority, the following exceptions have been admitted as follows:-

A. ACTS WHICH ARE ULTRA VIRES OR ILLEGAL

Foss vs. Harbottle will apply only when the act done by the majority is one which the company
is authorized to do by its memorandum. No simple majority of members can confirm or ratify
an illegal act, not even if all the shareholders are willing to do so. In case of ultra vires acts, even
a single shareholder can restrain the company from committing those acts by filing a suit of
injunction. Majority rule will not prevail where the act in question is illegal.

B. ACTS SUPPORTED BY INSUFFICIENT MAJORITY

For certain acts, it might require 3/4th majority. The rule in Foss v. Harbottle cannot be
invoked by a simple majority if the act requires special majority. If the requirements of special
majority are not fulfilled, any shareholder can restrain the company from acting on resolutions.

1. Case Laws

b. Edwards vs. Halliwell12 (1950)

A trade union had rules which were the equivalent of the articles of association, under which
any increase in members’ contributions had to be agreed by a 2/3rd majority in a ballot of
members. A meeting decided by a simple majority, to increase the subscriptions without holding
a ballot. The claimants as a majority of members applied for a declaration from the court that the
resolution was invalid.

It was held that the rule in Foss did not prevent a minority of a company from suing because
the matter about which they were suing was one which could only be done or validly sanctioned
by a greater than simple majority.

11 R. R. Drury, ‘The Relative Nature of a Shareholders’ Right to Enforce the Company Contract’ (1986) Cambridge
Law Journal 219 at 238–9
12 Edwards v. Halliwell, [1950] 2 All ER 1064 at 1066

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C. WHERE THE ACT OF MAJORITY CONSTITUTES A FRAUD ON THE MINORITY

A resolution would constitute a fraud on minority if it is not bona fide for the benefit of the
company as a whole. Similarly, an action of the majority which discriminates between majority
shareholders and minority could constitute a fraud of majority. A special resolution would be
liable to be impeached if the effect of it were to discriminate between the majority shareholders
and minority shareholders, so as to give the former advantage of which the latter were deprived.

The rule in Foss would create grave injustice if the majority were allowed to commit wrongs
against the company and benefit from those wrongs at the expense of the minority, simply
because no claim could be brought in respect of the wrong.

1. Case Laws

a. Cook v. Deek13 (1916)

The directors of a Railway Construction company obtained a contract in their own names to
construct a railway line. The contract was obtained under circumstances which amounted to
breach of trust by the directors who then used their voting powers to pass a resolution of the
company declaring that the company had no interest in the contract.

It was held that the benefit of the contract belongs in equity to the company and that the
directors would benefit themselves at the expense of the minority. It is tantamount to majority
oppressing the minority. In case of breach of duty of this sort, the rule in Foss did not bar the
claimants’ claim.

c. Brown vs. British Abrasive Wheel Co.14 (1919)

A company required further capital. The majority who represented 98 percent of the
shareholders, were willing to provide this capital but only if they could buy up the 2 percent
minority. The minority would not agree to sell and so the majority shareholders proposed to alter
the articles to provide for compulsory acquisition under which 9/10th of shareholders could buy
out any shareholders.

Lord Asbury held that the alteration of the articles would be restrained because the alteration
was not for the benefit of the company. The rule in Foss did not bar the claimant’s claim.

13 Cook v. Deek, [1956] 2 All ER 106 at 106

14 Brown vs. British Abrasive Wheel Co., (1873) 8 Ch App 1035 at 1051

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D. WHERE IT IS ALLEGED THAT THE PERSONAL MEMBERSHIP RIGHTS OF THE

PLAINTIFF SHAREHOLDER HAS BEEN INFRINGED

Such individual rights include the right to attend meetings the right to receive dividends the
right to insist in strict observance of the legal rules; statutory provisions in the memorandum and
articles. If such a right is in question, a single shareholder can on principle, defy a majority
consisting of all other shareholders.

Thus, where the chairman of a meeting at the time of taking the poll ruled out certain votes
which should have been included, a suit by a shareholder was held to be validly filed. Where the
candidature of a shareholder for directorship is rejected by the chairman, it is an individual
wrong in respect of which the suit is maintainable.

E. WHERE THERE IS BREACH OF DUTY

A minority shareholder can bring a suit against the company where there is a breach of duty
by the directors and majority shareholders to the detriment of the company.

1. Case Laws

a. Daniels vs. Daniels15 (1978)

A company on an instruction of the two directors (husband and wife), having majority
shareholding sold the company’s land to one of them, (the wife) at a gross under value. The
minority shareholders brought an action against the directors and the company. It was held that
minority shareholders had a valid cause of action.

F. OPPRESSION AND MISMANAGEMENT

Where there is oppression of minority or mismanagement of the affairs of the company, Foss
v. Harbottle does not apply. Oppression refers to an act performed in a burdensome, harsh and
wrongful manner. A shareholder can bring an action against the management of the company on
the grounds of oppression and mismanagement.

VI. CONCLUSION

The rule in Foss v. Harbottle provides that individual shareholders have no cause of action in
law for any wrongs done to the corporation and that if an action is to be brought in respect of

15 Daniels vs. Daniels, (1887) LR 12 App Cas 589 (PC)

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such losses, it must be brought either by the corporation itself (through management) or by way
of a derivative action.16 The rule in Foss v. Harbottle is the consequence of the fact that a
corporation is a separate legal entity. Other consequences are limited liability and limited rights.
The company is liable for its contracts and torts; the shareholder has no such liability. The
company acquires causes of action for breaches of contract and for torts which damage the
company.

Further no cause of action vests in the shareholder. When the shareholder acquires a share
he accepts the fact that the value of his investment follows the fortunes of the company and that
he can only exercise his influence over the fortunes of the company by the exercise of his voting
rights in general meeting. The law confers on him the right to ensure that the company observes
the limitations of its memorandum of association and the right to ensure that other shareholders
observe the rule, imposed on them by the articles of association. If it is right that the law has
conferred or should in certain restricted circumstances confer further rights on a shareholder the
scope and consequences of such further rights require careful consideration.17

16 Hercules Management v Ernst & Young [1997] 2 SCR 165

17 Prudential Assurance Co. v. Newman Industries Ltd., [1982] 1 All E.R. 354

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