Stainer v Lee

The court considered an application under sections 260–264 of the Companies Act 2006 for permission under section 261 to continue a derivative claim brought by a minority shareholder. The claim alleged breach of directors' fiduciary duties (and, from 1 October 2007, breach of the statutory duty under section 172) in relation to substantial loans made by the company to Eldington Holdings Limited, a company controlled by a director, including (i) making and recording the loans as interest free over many years and (ii) making further lending beyond the sums authorised to discharge Eldington's bank borrowings. The judge applied the statutory leave-test in section 263, having regard to authorities interpreting that provision, and concluded there were strong grounds to allow the derivative claim to continue at least to the disclosure stage because the claims as pleaded were sufficiently arguable, the applicant acted in good faith and the votes approving a later loan agreement did not plainly constitute informed ratification. The court granted permission limited to the conclusion of disclosure and ordered an indemnity for the applicant's future costs capped at £40,000 (exclusive of VAT).

Background and parties. Kerrington Limited is a property investment and development company. The applicant, a small shareholder holding approximately 0.08% of the issued share capital, sought permission to continue a derivative claim on behalf of Kerrington against its two directors, Mr Gerard Lee and Mr Enrique Elliott, and Eldington Holdings Limited (a company wholly owned and controlled by Mr Lee). The core allegations related to large unsecured loans advanced by Kerrington (and/or its subsidiaries) to Eldington, rising from about £4.68 million to over £8.1 million between 2001 and 2008.

Nature of the application. The applicant applied under section 261 of the Companies Act 2006 for leave to continue a derivative action. The pleaded causes were: (i) breach of fiduciary duties/section 172 by permitting interest-free lending or failing to collect interest, and (ii) breach in making "additional lending" beyond the sums authorised for discharging Eldington's borrowing incurred in acquiring the company’s shares. The claim against Eldington included restitution/money had and received and a constructive trust plea in respect of the additional lending.

Issues framed by the court.

• Whether the statutory bar in section 263(2)(a) applied (i.e. whether no director acting in accordance with section 172 would continue the claim).
• Whether the claim was brought in good faith and whether the alternative remedy of an unfair prejudice petition made the derivative route inappropriate.
• Whether subsequent member approval and the New Loan Agreement constituted ratification of the impugned transactions.
• Whether Eldington should remain a defendant given the practical importance of a restitution claim against it.

Reasoning and findings. The judge analysed the statutory framework (sections 260–264, in particular sections 261 and 263) and relevant authorities establishing that the court must form a provisional view on the strength and importance of the claim from the perspective of a hypothetical director acting under section 172. He found the following material points: (a) there was no sight of the original loan agreement and the company’s accounts repeatedly recorded the loan as interest free despite declarations suggesting otherwise; (b) no real contemporaneous explanation or documentation explained why interest had not been collected over nearly nine years; (c) the additional lending of about £3.43 million was outside the scope of the members' prior special resolution authorising financial assistance for the share acquisition and was unexplained given Eldington appeared to be a special purpose vehicle; (d) payments made since proceedings began did not conclusively eliminate the prospect of loss and raised questions (e.g. an unexplained £1 million paid into a subsidiary from an unidentified "independent third party"); (e) the later New Loan Agreement and member vote did not plainly amount to informed ratification because the notice and explanations to independent members were not demonstrated and the vote may not have been given with full knowledge of the relevant facts; (f) the applicant acted in good faith and had the support of other minority shareholders; and (g) inclusion of Eldington as a defendant was justified because restitution against Eldington is an essential practical remedy.

Disposition. Permission to continue the derivative claim was granted but limited to the conclusion of disclosure, at which point the applicant must apply for further permission. The court also ordered that the company indemnify the applicant's reasonable future costs subject to a ceiling of £40,000 (exclusive of VAT), with liberty to apply to increase that sum.

Permission to continue the derivative claim was granted (limited to the conclusion of disclosure). The court held that the pleaded breaches concerning interest-free treatment of long-standing loans and unexplained additional lending to a company controlled by a director were sufficiently strong and that some directors acting in accordance with section 172 would seek to continue the claim. The later member approval and New Loan Agreement did not plainly amount to informed ratification. The applicant was acting in good faith. An indemnity for future costs was granted but capped at £40,000 exclusive of VAT.