Re Compound Photonics Group Limited

The Court of Appeal allowed the investors' appeal against Mr Justice Adam Johnson's decision in an unfair-prejudice petition under section 994 of the Companies Act 2006. Central to the dispute was the proper construction of a contractual good faith obligation in clause 4.2 of the 2013 shareholders' agreement and whether that obligation (and the SHA more generally) formed part of the company's constitution for the purposes of directors' duties under section 171.

The court held that the meaning of an express good faith clause depends on its context and that it was erroneous to import, as a matter of routine and without supporting text in the agreement, an extended package of procedural and fiduciary-style constraints (such as an entitlement to procedural fairness or a requirement to entrench particular directors) drawn from cases in other jurisdictions or other factual settings. The court rejected the Judge's conclusion that clause 4.2 operated to entrench the founder directors and to prohibit the investors from using shareholder voting power to remove them; it also rejected the Judge's view that the SHA formed part of the company's constitution for the purposes of section 171. On the facts, the investors had genuinely held the view that management change was necessary, and no unfair prejudice within section 994 was established. The appeal was allowed and the respondents' notice dismissed.

Background and parties:

• This is an appeal from the Companies Court (ChD) decision of Mr Justice Adam Johnson ([2021] EWHC 787 (Ch)). The petitioners were Mark Faulkner, Jonathan Sachs and other minority shareholders in Compound Photonics Group Limited; the respondents/appellants were majority investors (Vollin, Minden and Aldon) who between them held about 93% of the shares after 2014.

Nature of the claim: The petition under section 994 of the Companies Act 2006 alleged unfair prejudice arising from the investors forcing the resignation/removal of the company's founder directors and thereafter controlling management in breach of the 2013 shareholders' agreement (the "2013 SHA") and certain articles, and that investor-nominated directors breached duties under sections 171 and 172.

Issues framed:

• The scope and content of clause 4.2 of the 2013 SHA, which required shareholders to "act in good faith" in relation to the agreement;
• Whether the 2013 SHA formed part of the company’s constitution for the purposes of section 171 of the Companies Act 2006;
• Whether the investors and their nominee directors acted so as to cause unfair prejudice to the minorities under section 994; and if so, the appropriate remedy (the judge had ordered a buy-out).

Court's reasoning (summary):

• The Court of Appeal emphasised that the meaning of an express good faith clause depends on its contractual context. It criticised the trial judge's uncritical adoption of a formulaic list of "minimum standards" (from Unwin v Bond) as if those standards were automatically applicable regardless of the rest of the agreement.
• The appellate court held that the judge erred in treating clause 4.2 as importing a substantive obligation to entrench particular directors and to require procedural duties of fairness supplemental to the statutory procedures for director removal under the Companies Act (sections 168–169). The court considered that, if shareholders intended to fetter voting rights on removal, that should have been made explicit in the SHA.
• The court rejected the Judge's conclusion that the SHA formed part of the company's constitution for the purposes of section 171 by operation of section 17 or section 257 of the 2006 Act. The appellate court held that the SHA was not a "resolution or agreement" of the kind treated by Chapter 3 as forming the constitution and that section 257 did not have the effect relied upon by the petitioners.
• Applying the correct construction, and having regard to the Judge's unchallenged factual findings that the investors genuinely and reasonably believed management change was necessary, the Court of Appeal held there was no basis to find unfair prejudice under section 994. The investors' conduct was not shown to be dishonest or otherwise to amount to bad faith of the kind that the SHA's core honesty obligation would forbid.

Procedural posture: Appeal from the High Court (Companies Court, ChD). The Court of Appeal allowed the appeal and dismissed the respondents' notice.

Appeal allowed. The Court of Appeal held that the trial judge had erred in construing clause 4.2 of the 2013 SHA as importing an extensive package of procedural and substantive restraints (including entrenchment of particular directors and a duty to consult them) not supported by the agreement’s text or context, and in treating the SHA as forming part of the company’s constitution for the purposes of section 171. On the correct construction and the unchallenged factual findings, the investors had not unfairly prejudiced the minorities under section 994.

Appeal from the High Court of Justice, Business and Property Courts, Companies Court (ChD), Mr Justice Adam Johnson [2021] EWHC 787 (Ch) to the Court of Appeal (Civil Division) which delivered judgment on 21 October 2022 ([2022] EWCA Civ 1371).