Case Study: Foss v Harbottle (1843)

By | December 31, 2020
Case Study: Foss v Harbottle (1843)

In the area of corporate law, the rule of Foss v Harbottle has developed a fundamental principle: the company itself is the proper plaintiff over an injustice committed to a company. Along with the “Salomon” concept of separate legal personality of corporations, this principle has been of invaluable value to trade and the global economy.

This case study provides readers with a summary as well as a critical analysis of the important Foss v. Harbottle case.

I. Facts of Foss v. Harbottle 

Title of the case: Foss v Harbottle

Citation: [1843] 67 ER 189, (1843) 2 Hare 461

Court: Court of Chancery

Quorum: Wigram VC, Jenkins LJ

Parties to the dispute:

Petitioner: Richard Foss and Edward Starkie Turton

Defendants: Thomas Harbottle & Other’s

Minorities have often been on the other side of the coin, usually covered by derivative claims and unequal redress for discrimination. Many researchers suggested that the Rule of Rules was repealed after the coming into effect of the current formal derivative actions, that there will also be a rise in shareholder lawsuits and have further voiced concern over overlaps in both derivative claims and unequal remedies for prejudice. Its basic values are still of critical significance today.

In September 1835, a company called the Victoria Park Company was set up to purchase 180 acres (0.73 km2) of land near Manchester (later became Victoria Park, Manchester, when the Act of Parliament turned it into incorporation). But counter to the actual work allegedly enclosing and planting the same in an ornamental and park-like way, and constructing houses thereon having attached gardens and fields, and then selling, renting or otherwise disposing of them, the directors of the company along with others were indulging in the misappropriation of the property that belonged to the company and that may result in the misappropriation of the property that belonged to the company.

The concern was illustrated by Richard Foss and Edward Starkie Turton, two minor shareholders. They reported that the five directors of the firm were Thomas Harbottle, Joseph Adshead, Henry Byrom, John Westhead, Richard Bealey, and the lawyers and architects (Joseph Denison, Thomas Bunting, and Richard Lane), as well as H. E. Lloyd, Rotton, T. Peet, J. Biggs and S. Brooks (Byrom, Adshead and Westhead’s various assignees) misapplied and falsely mortgaged the property of the company, thereby behaving in contradiction to what the company was formed for. It clearly demands that the wrongdoers be kept liable for all the transactions and that a responsible receiver be named.

Their argument was based on the ground below. The first argument was the fraudulent practises by which the company’s funds were misappropriated. The second ground was due to the inadequacy of qualified directors in the company who could potentially make up the board and the third ground was that there was no clerk or office in the company. Because of these conditions, the owners had no right to remove the property from the directors’ hands and instead had to pursue legal action against them.

II. Issues 

The concerns were whether or not the members of the corporation can bring suit on behalf of the company and whether or not the responsible parties should be held liable for their wrongdoings.

III. Arguments Advanced and the Raised Contentions

  • Petitioner

The plaintiffs argued that the corporation could not be regarded as an ordinary enterprise unless it was formed by Parliament. In addition, in order to support the company, the act of incorporation was passed, but the directors sought to satisfy their own desires. They also argued that directors should have served as the company’s trustees and should be held liable for misappropriating the company’s properties. Therefore, this act permitted the directors to sue any persons who caused the corporation any harm, although it did not allow the employees of the company or outsiders to sue the board of directors.

  • Defendant

The defendants argued that the plaintiffs had no right to pursue legal action on behalf of the company against them.

IV. Judgement

In this case, Wigram VC dismissed the shareholders’ claim and maintained that no legal recourse against the wrong done to the corporation can be brought by an individual shareholder or other outsiders of the company since both the company and its shareholders are deemed to be independent legal bodies. Under Section 21(1)(a) of the Companies Act, it is also specified that a company may sue and be sued on its own behalf and that a member may not take any legal action on behalf of the company and that if a company has a right to sue a party by touch, it is for the company to do so [1].

The reason the company’s owners are powerless to sue is that the corporation is the one who has actually sustained injuries and not its members, so it is up to the company to claim or take some punitive action against those members who have misappropriated their property.

In this circumstance, Wigram VC pursued the decisions passed on unincorporated firms in older cases and encouraged minorities to show that all the options of redress within the internal forum have been exhausted, as he claimed that the courts would not interfere in cases where the majority of owners are willing to ratify irregular behaviour, but this law was deemed unfavourable [2].

Therefore, the two major principles were in essence, defined by the court. First and foremost was the Proper Plaintiff Rule which defined that if any error made to the corporation or company suffers any damage due to the dishonest or incompetent actions of directors or any other outsider, then only the company can sue the directors or outsiders in order to impose its rights in such a case.

Whereas the members of the company or any outsider cannot sue on its behalf on the grounds of the Separate Legal Entity concept, which deems the company to be a separate legal person from all the members of the company, the company may sue and be sued on its own behalf.

This is the only explanation why in order to compensate the damages incurred by the group, only a company can bring a legal action or institute legal proceedings against any member. A business officer can take legal action against the wrongdoer on his behalf only if he is allowed to do so by the board of directors or by an ordinary resolution adopted at the general meeting.

The second rule was the Majority Principal Rule which established that if the alleged wrong may be confirmed or approved in the general meeting by a clear majority of representatives, the court would not intervene in such situations.

However for minority owners, the enforcement of these strict principles appeared to be quite severe and unjust, as while they were given a substantial right, they were also excluded from seeking justice under the law and had to adhere to the wrongs done by the majority as they were the ones who control the business and minority members had no say due to their tiny say.

Four exceptions to the general principle have also been set down in order to alleviate this harshness, where lawsuits would be tolerated. The first and primary exception is where the alleged act was illegal and an ultra vire to laid down rules and regulations [3].

The second exemption covers a case in which the alleged crime may only have been validly committed or sectioned, in breach of the provision laid down in the articles by such special majority members [4].

The third exemption applies to the alleged actions involving an infringement of the personal and individual rights of the complainant in his role as a director of the company. Third but not least the fourth exemption deals with a case in which minority misconduct has been perpetrated by a majority who own the company themselves [5]. Therefore, both of these exceptions relate to the protection of fundamental minority rights that continue to be secured regardless of the majority vote [6].

V. Critical Analysis

  • Ultra vires

The precedent of Foss v. Harbottle holds for as long as the company functions under its mandate. Events of ultra vires are acts that go beyond the jurisdiction of a company to perform. Both actions fell beyond the powers expressly provided for in the Companies Act and also beyond the powers alluded to in the Articles of Association and and the Memorandum of Association.

The shareholder may bring lawsuits against a company in cases where an act ultra vires the memorandum of association and articles of association. These acts are null and void and cannot be made legal by the approval of the majority members.

  • Fraud on Minority

Where a majority of a company’s representatives use their influence to commit fraud or oppress the minority, even a single shareholder is responsible for impeaching their conduct. Where a plurality of a company’s representatives uses their influence to defraud or oppress the minority, even a single shareholder is responsible for impeaching their conduct.

Where a majority of a company’s representatives use their influence to defraud or oppress the minority, even a single shareholder is responsible for impeaching their conduct. Any section of duty that makes the company should be deemed a fraud on the minority.

  • Wrongdoers in Control

A controlling shareholder or managing director has a fiduciary duty to the company. The majority does not claim the assets of the company or the rights of the minority shareholders.

  • Acts Requiring Special Majority

There are certain decisions that cannot be made by a mere majority of the company’s owners. They shall be approved by a special majority for these votes, i.e., three-fourths of the members present and voting shall be required for voting. For e.g., an addition to an association with an essay or an association memorandum whereby passing only an ordinary resolution or by passing a special resolution in the manner required by statute, a majority claims to do any such act, a member or member may bring proceedings to restrain the majority [7].

  • Individual Membership Rights

There are certain personal privileges asserted by each shareholder against the company and its shareholders. The acts themselves impose on shareholders a large amount of these rights, but they can also originate from the articles of association. These rights are the rights of people or individuals, commonly recognised as the rights of the party leadership, and they are explicitly not protected by the rule of the majority.

The shareholder has the right to enforce his personal rights against the company, such as the right to vote, the right to stand for the election of the chairman, etc. The right to individual membership ensures that individual shareholders can insist that the legal laws, statutory provisions and the regulations of the memorandum and articles which the majority of shareholders cannot waive are strictly observed.

  • Oppression and Mismanagement

Where the terms of sections 241 to 246 of the Companies Act of 2013 or sections 397 and 398 of the Companies Act of 1956 apply, a suit can be acquired by minority shareholders. It is, therefore, a constitutional right granted to a shareholder which overrides the limits of the majority rule. The application may be made by 100 members or members with 1/5th of the members on the company register [8].

VI. Conclusion

A company is a legal entity that is given a different legal body rather than the members who create it, i.e., the company’s owners. The company’s decisions are made on behalf of the company by the Member-Owners and the Board of Directors. The group also makes decisions on seeking lawsuits. As per the Companies Act 1956, the corporation is governed by shareholders who own most of the shares. This majority theory is accepted in Foss v Harbottle, a ground-breaking case. The majority of the shareholders’ vote was binding on the minority. This theory has since been replaced and under the Companies Act 2013, minority owners have been granted more control.

In order to protect the rights of minority owners, there are provisions under the Companies Act, 1956 but because of lack of time, redress or capacity, the minority was unable or unable, financial or otherwise. Hence, there have been several instances of minority shareholder discrimination. The Companies Act, 2013 has provided for the protection of the interests of minority shareholders which can be called a game-changer in the battle between majority and minority shareholders.


References

[1] Wedderburn, K. W. (1957). Shareholders’ rights and the rule in Foss v. Harbottle. The Cambridge Law Journal, 15(2), 194-215.

[2] Sealy, L. S. (1981). Foss v. Harbottle—A Marathon Where Nobody Wins. The Cambridge Law Journal, 40(1), 29-33.

[3] Taylor v. National Union of Mineworkers (Derbyshire Area) [1985] IRLR 99 Smith v Croft [1988] Ch 114

[4] Edwards v. Halliwell [1950] 2 All ER 1064

[5] Menier v. Hooper’s Telegraphs works (1874)

Estmanco Ltd v. Greater London Council (1982)

[6] Gregory, R. (1982). What Is the Rule in Foss v. Harbottle?. The Modern Law Review, 45(5), 584-588.

[7] Kershaw, D. (2013). The rule in Foss v Harbottle is dead; long live the rule in Foss v Harbottle.

[8] Pandya, P. (2014). The Fate of Class Action Suits in India: Then & Now?


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