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Gross v Rackind [2004]

blow for the corporate veil principle and will present some interesting opportunities for shareholders of group companies who wish to 'exit' their investments on favourable terms.
In the case, the Gross family and the Rackind family were equal shareholders in a holding company that had two wholly owned subsidiary companies, Citybranch and Blaneland. The business of the group, or more specifically, the business of the two subsidiaries was property investment. The relationship between the two families broke down with various disputes arising in connection with the running of the two subsidiaries.
The Rackind family sought to have the holding company wound up on the 'just and equitable' ground pursuant to section 122(1)(g) of the Insolvency Act 1986, thereby effectively achieving a winding-up of the whole group. The Gross family presented a section 459 petition in respect of the holding company.
The family's complaints were mainly about certain things allegedly done by Mr Rackind in relation to the subsidiaries, and the general breakdown of the relationship between the two shareholder factions. They sought various forms of relief including, unusually, an order that the Rackind family sell its shareholdings in the holding company to the Gross family. This is unusual because section 459 petitioners usually seek the right to sell on favourable terms, not the right to buy out the other shareholders. In any event, the relief sought was for the purpose of bringing to an end the whole 'venture' with the Rackind family shareholders. The Gross family essentially made five allegations as a basis for the section 459 petition:
Aside from the fact that shareholders cannot, as a matter of general law, claim for 'reflective loss' under the rule in Foss v Harbottle (1843) 2 Hare 461(although query whether section 459 overrides this principle), the present case involves a claim for reflective loss not by the shareholders of the company allegedly suffering damage, but by the shareholders of the shareholder (in other words, the shareholders of the holding company).

It should be noted that the truth or otherwise of the allegations was not in issue on the strike-out. As a result of the appeal court's decision, the claimants will be required to prove those allegations at trial.
The court's decision represents a broadening of the scope of cases in which relief may be claimed under section 459.
On one hand, this represents a fairly fundamental departure from the clear words of the section as drafted, and probably does not reflect what was intended by parliament. It also pierces the corporate veil that exists between companies in a group, which were presumably incorporated as separate entities for some reason devised by the shareholders.
On the other hand, this is a way of short-cutting the usual procedure for complaining, as a shareholder, about a director's alleged wrongdoing.
The usual procedure would be to bring a derivative action under an exception to the rule in Foss. That procedure allows shareholders to procure the company to bring proceedings against a director to redress the wrong done to the company and to recoup loss. It is potentially more cumbersome than the section 459 procedure and, where successful, means that the company obtains a judgment against the director - this does not result in any change to the respective shareholder rights/shareholdings. A successful section 459 petition, on the other hand, will usually result in to the right to be bought out of the company at fair value, without any discount. This is always going to be a more desirable outcome for shareholders than a judgment in favour of the company. The fundamentally different outcome for the shareholders of a section 459 petition vis-à-vis a derivative action is not something the court appeared to consider in any detail.
meaning of interests
petitioner must be a shareholder in order to bring the action, the conduct which forms the basis of his complaint need not affect him in his capacity as a member. For example, exclusion from the management of the company, which is conduct affecting the petitioner qua director, will suffice (O'Neill v Phillips [1999]

action for unfair prejudice under s.459 Companies Act 1985 (now s.994 Companies Act 2006). It is the only case thus far in the HL on the provision and it deals with the concept of members of a business having their " . legitimate expectations" . disappointed.

Mr Phillips had owned a company called Pectel Ltd. It specialised in stripping asbestos from buildings. Mr O'Neill started to work for the company in 1983. In 1985, Phillips was so impressed with O'Neill's work that he made him a director and gave him 25% of the shares. They had an informal chat in May, and Mr Phillips said that one day, he hoped Mr O'Neill could take over the whole management, and would then be allowed to draw 50% of the company's profits. This happened, Phillips retired and O'Neill took over management. There were further talks about increasing O'Neill's actual sharedholding to 50%, but this was not to happen. After five year the construction industry went into decline, and so did the company. Phillips came back in and took business control. He demoted O'Neill to be a branch manager of the German operations and withdrew O'Neill's share of the profits. O'Neill was miffed. He started up his own competing company in Germany in 1990 and then he filed a petition for unfairly prejudicial conduct against Phillips, firstly, for the termination of equal profit-sharing and, secondly, for repudiating the alleged agreement for the allotment of more shares
" . Unfairly prejudicial" . In section 459 Parliament has chosen fairness as the criterion by which the court must decide whether it has jurisdiction to grant relief.

Although fairness is a notion which can be applied to all kinds of activities, its content will depend upon the context in which it is being used. "all is fair in love and war"

background has the following two features. First, a company is an association of persons for an economic purpose, usually entered into with legal advice and some degree of formality. The terms of the association are contained in the articles of association and sometimes in collateral agreements between the shareholders. Thus the manner in which the affairs of the company may be conducted is closely regulated by rules to which the shareholders have agreed. Secondly, company law has developed seamlessly from the law of partnership, which was treated by equity, like the Roman societas, as a contract of good faith. One of the traditional roles of equity, as a separate jurisdiction, was to restrain the exercise of strict legal rights in certain relationships in which it considered that this would be contrary to good faith. These principles have, with appropriate modification, been carried over into company law.

The first of these two features leads to the conclusion that a member of a company will not ordinarily be entitled to complain of unfairness unless there has been some breach of the terms on which he agreed that the affairs of the company should be conducted. But the second leads to the conclusion that there will be cases in which equitable considerations make it unfair for those conducting the affairs of the company to rely upon their strict legal powers. Thus unfairness may consist in a breach of the rules or in using the rules in a manner which equity would regard as contrary to good faith.

n my view, a balance has to be struck between the breadth of the discretion given to the court and the principle of legal certainty. Petitions under section 459 are often lengthy and expensive. It is highly desirable that lawyers should be able to advise their clients whether or not a petition is likely to succeed.

Mr. Phillips had agreed in principle, subject to the execution of a suitable document. But this is where I think that the CA may have been misled by the expression " . legitimate expectation." . The real question is whether in fairness or EQ Mr. O'Neill had a right to the shares. On this point, one runs up against what seems to me the insuperable obstacle of the judge's finding that Mr. Phillips never agreed to give them. He made no P on the point. From which it seems to me to follow that there is no basis, consistent with established principles of EQ, for a court to hold that Mr. Phillips was behaving unfairly in withdrawing from the negotiation. This would not be restraining the exercise of legal Rs. It would be imposing upon Mr. Phillips an obligation to which he never agreed. Where, as here, parties enter into negotiations with a view to a transfer of shares on professional advice and subject to a condition that they are not to be bound until a formal document has been executed, I do not think it is possible to say that an obligation has arisen in fairness or EQ at an earlier stage.
Vinelott J refused to grant relief to the petitioner. An alleged agreement that she should remain as the chairman was not looked on favourably in this public company, because it contradicts the principle that in public companies information material to good governance should be disclosed to shareholders. Investors are entitled to assume that the whole of the company's constitution is written in the constitution (not some existential "legitimate expectation"). Particularly, the right to be the company president was a personal right (not a class right) and it could be altered by special resolution. Vinelott J stated,
" "As was pointed out by Hoffmann J in Re A Company No 00477 of 1986 [1986] BCLC 376, the interests of a member are not limited to his strict legal rights under the constitution of the company. There are wider equitable considerations which the court must bear in mind in considering whether a case falls within s 459 in particular in deciding what are the legitimate expectations of a member. If I may say so, I respectfully accept that approach, but it is to my mind impossible, on the face of the allegations in the petition, to apply it here. Of course, the petitioner had a legitimate expectation that the affairs of the company would be properly conducted within the framework of its constitution. I wholly fail to understand how it can be said that the petitioner had a legitimate expectation that the articles would not be altered by special resolution in a way which enabled her office to be terminated by some different machinery. No doubt there are cases where a legitimate expectation may be inferred from arrangements outside the ambit of the formal constitution of the company, but it must be borne in mind that this is a public company, a listed company, and a large one, and that the constitution was adopted at the time when the company was first floated on the Unlisted Securities Market. Outside investors were entitled to assume that the whole of the constitution was contained in the articles, read, of course, together with the Companies Acts. There is in these circumstances no room for any legitimate expectation founded on some agreement or arrangement made between the directors and kept up their sleeves and not disclosed to those placing the shares with the public through the Unlisted Securities Market... I think that the petition, on its face, is so hopeless that the only right course is to strike it out."
In my judgment, [counsel for the petitioners'] submission is based on a misreading of both Westbourne Galleries and O'Neill v. Phillips . In the first place, in Westbourne Galleries Lord Wilberforce expressly warned against simply treating a company (even a 'quasipartnership' company) as if it we re a partnership; a warning which Lord Hoffmann quoted in O'Neill v . Phillips.

parallel in O'Neill v. Phillips between the jurisdiction to order a winding up on the just and equita ble ground and the jurisdiction under section 459 [now s.994 CA 2006], Lord Hoffmann applied the reasoning of Lord Wilberforce in Westbourne Galleries . Thirdly, I accept [counsel for the respondents' ] submission that it is difficult to believe that Lord Hoffmann would have placed the limits on the section 459 jurisdiction which he did, had he thought that by so doing he was in effect transferring business from the section 459 jurisdiction to the winding-up jurisdiction. On the contrary, it is plainly implicit in Lord Hoffmann's reasoning, as I read his speech, that the winding-up jurisdiction is , at the very least, no wider than the section 459 jurisdiction: a proposition which is consistent with a winding-up order being, as it were, the death sentence on a company

Fourthly, it would in my judgment be extremely unfortunate, and inconsistent with the approach and the reasoning of Lord Hoffmann in O'Neill v. Phillips , if, given the two parallel jurisdictions, conduct which is not 'unfair' for the purposes of section 459 should nevertheless be capable of founding a case for a winding-up order on the 'just and equitable' ground. As to Nourse J's decision in Noble , in so far as that decision is authority for the proposition that conduct which is not unfair for the purposes of section 459 can nevertheless found a case for a winding-up on the just and equitable ground it is in my judgment inconsistent with O'Neill v. Phillip
Phoenix Office Supplies Ltd v Larvin [2002]

claimed unfair prejudice is that Messrs Parish and Ogden, who held between them some two thirds of its issued capital, wrongfully excluded Mr. Larvin, the third director and remaining one third shareholder, from his entitlement as a director to access to the company's records, thereby preventing him from protecting his interest as a shareholder.

It is important to note that Messrs Parish and Ogden, initially at any rate, did not seek to exclude Mr. Larvin as a director or in any other respect from his involvement in the company. He it was who wanted to sever all connection with it for personal reasons and to sell them his shares at their full value - that is, without an agreed discount to reflect his minority holding. He remained a director for the sole purpose of enabling him to negotiate and secure that sale. The central issue on the appeal, given the Judge's findings of fact, is whether, as a minority shareholder seeking to leave the company, he was entitled, by a petition under section 459, to obtain relief under section 461 enabling him to "put" his shares on Messrs Parish and Ogden at their full value

There had been discussion in 1995 about a possible put-option, whereby a member who left could require the others to buy out his share of the company's asset value. However, no contract had resulted from the discussion.

When the petitioner left in 2000, he asked the others to buy him out on those terms. They responded by offering 33,000 for his share.
1 The directors' service agreements related to employment rights only and were not designed to affect any shareholder's position as a shareholder nor to exclude any *153 potential remedy under s. 459 . There was a family expectation that each of the founder's children would so far as possible be brought into the management of the company's affairs and become directors and would continue to be involved in management thereafter. It was recognised that if a family shareholder was to be dislodged from management something would have to be done to realise the value of his or her shares. The service agreements did not change that expectation.

2 This was a company in which considerations of a personal character arising out of the relationships between family shareholders gave rise to equitable considerations of the kind mentioned in Re Westbourne Galleries Ltd [1973] AC 360 and O'Neill v Phillips [1999] BCC 600; [1999] 1 WLR 1092 which disentitled the majority to remove a minority shareholder director from office without making a reasonable offer to purchase the minority's shares.

3 The petitioner's service agreement did not override those equitable considerations and the agreement did not provide what would happen to the shares of a person dismissed from employment under the agreement. Nor did the agreement detract from the expectations that might reasonably have been derived from the manner in which actual and potential departures by shareholders had previously been discussed and handled. ( Re Ringtower Holdings plc (1989) 5 BCC 82 distinguished .)

4 The petitioner's exclusion without an offer to purchase her shares could not be justified by reference to the petitioner's conduct which was said to have rendered the company's conduct not unfair. On the evidence concerning individual complaints that conduct was not such as to disentitle her to relief.

5 The petitioner was entitled to an order for the company or the respondents to purchase her shares. That order should in the ordinary course provide no discount of the value of the shares for the minority nature of the holding (dicta of Lord Hoffmann in O'Neill v Phillips applied ). The court was inclined (in the interests of certainty) to make an order for the valuation as at the date of judgment, rather than at the date of final determination of valuation, but would hear further argument as to the appropriate date of valuation.
Held, allowing the appeal, that (1) on the evidence the judge had been entitled to conclude that G's conduct had justified his removal as a director, notwithstanding the history of relations between the parties and the effect that his absence from the board would have on his ability thereafter to scrutinise the decisions that were taken in relation to T and its profits. Although G's negotiations to purchase a related business never came to fruition, G's dismissal as a director was justified by his willingness to embark on such negotiations without any prior disclosure or discussion with his fellow directors and shareholders and his attempts to conceal the existence of the negotiations by making statements that were untrue or became untrue and remained uncorrected. (2) The judge had been wrong to decline to order R to purchase G's shares and instead to order payment by the company of the dividend that was due to him. Non-payment was not simply a breach of the agreement between the parties. The money had been distributed to the other shareholders as management or other expenses to which they had no entitlement and T's accounts had been mis-stated as a consequence. Under s.461 of the 1985 Act the court's discretion as to remedy was not limited to merely reversing or putting right the immediate conduct that had justified the making of the order. The most appropriate order to deal with intra company disputes in small private companies would normally be a buy-out order, since anything less than a clean break was unlikely in most cases of proven fault to satisfy the objectives of the court's power to intervene, O'Neill v Phillips [1999] 1 W.L.R. 1092 considered. G's own conduct could not be used to support the rejection of a buy-out order.
Re OC (Transport) Services Ltd [1984]
(R) sought to have his shares bought by the respondents.

he petitioner ceased to work for the company as from March 1981 and from June 1981 he received no payment from the company by way of dividend. The petition was presented in September 1982.

The question thus arose of what value was to be placed on R's shares. In the petition R sought an order that his shareholding be purchased at a fair and reasonable price without regard to the creation of the 900 shares. The final disposal of the petition was not desired by the parties; both sides were anxious to call expert evidence as to the value of the petitioner's shares. The court was being asked merely to decide the appropriate date of valuation.

For R it was submitted that the shareholding ought to be valued as at 11 January 1980, i.e. the date when the company's share capital was increased to £1,000; alternatively as at 31 March 1980, the first balance sheet date thereafter. Counsel submitted that there were difficulties in assessing the position as at the date of the petition, having regard to the allowances used by Holdings.

It was argued by H and Holdings (the respondents) that the relevant date should be the petition date, or if not then, the date on which the petitioner's employment was terminated on 2 June 1981. It was said that he had always had legal advice and had at all times agreed to a dilution of the equities as well as being offered fair options which he had neither taken up nor sought to negotiate with any purpose. Further, the petition had been long delayed and without notice and had immediately been followed by a fair offer.
a. The evidence of the events giving rise to the claim spans a period of some 40 years. The petitions were brought against two associated companies, Macro (Ipswich) Ltd and Earliba Finance Co Ltd. The petitioners alleged that the conduct of the companies' sole director, Mr. Thompson, (T), amounted to mismanagement which unfairly prejudiced their interests as members. At the time of the petition T was 83 years of age. He was described as a 'patriarchal figure' and engaged in serious disagreements with the petitioners. It is noteworthy that of the three petitioners, one was T's son and the other two were his nephews. Central to the mismanagement allegation was the complaint that T's laissez faire style of management left the companies vulnerable to the dishonesty and neglect of his employees at Thompsons, an estate agency business which managed a substantial number of rental properties owned by the company. The petitioners alleged that Thompsons' employees received secret commissions from builders, the costs of which were passed on to the companies, and that they took 'key' money from new tenants. It was successfully argued that the substantial financial losses suffered were due to T's mismanagement which unfairly prejudiced the petitioners.

b. Arden J stated that the question of whether any conduct was 'unfairly prejudicial' to the interests of the members has to be judged on an objective basis. First it has to be determined whether the action of which the complaint is made is prejudicial to members' interests and, second, whether it is unfairly so.

c. In granting relief, the court took the view that rather than appoint the petitioners to the board, which they had contended had been their expectation, T would be ordered to purchase his son's shares in Macro and Earliba.