Introduction
The case of Smith v Croft (No 2) [1987] 3 All ER 909, heard in the Chancery Division, provides clear guidance on the limitations faced by minority shareholders when disputing corporate actions. This judgment establishes principles related to the proper plaintiff rule and the statutory derivative action, focusing on the requirement that a minority shareholder prove the action has backing from members holding a notable part of the independent minority. The case reviews the relationship between common law principles and statutory rules on shareholder remedies, creating specific criteria for assessing the validity of derivative claims. These rules seek to stop unnecessary or improper use of legal processes while making sure valid shareholder concerns are handled.
The Proper Plaintiff Rule and Derivative Actions
Derivative actions, initiated by shareholders for the company, deal with harms caused to the company itself. The proper plaintiff rule states the company, as a separate legal entity, is the rightful plaintiff in such cases. Smith v Croft (No 2) affirms this rule, stating a shareholder cannot usually bring an action for harms caused to the company unless those responsible manage the company and prevent it from pursuing the claim.
The “Significant Portion” Requirement in Section 210 of the Companies Act 1985
Smith v Croft (No 2) explains the interpretation of Section 210 of the Companies Act 1985 (now Section 260 of the Companies Act 2006), which governs statutory derivative actions. This section allows a company member to request court approval to initiate proceedings for the company. A main issue in the case is the requirement for the applicant to show support from a "significant portion" of the independent minority shareholders. The court decided this does not require a basic majority but needs assessment of the size and nature of shareholdings backing the action.
Calculating the “Independent Minority”
Justice Knox in Smith v Croft (No 2) described a process for determining the "independent minority." This involves excluding shareholders connected to the alleged misconduct or who are not impartial. The judgment stresses the importance of considering both the count of shareholders and the worth of their shares when determining if the applicant represents a notable part of the independent minority. Here, even though the applicant had backing from a majority of independent minority shareholders by count, the court refused permission because the worth of their shares, compared to the total worth of independent minority shares, was not considered adequate.
Implications for Minority Shareholder Protection
Smith v Croft (No 2) has significant impacts on minority shareholder protection. While the statutory derivative action intends to provide a method to seek redress when wrongdoers manage the company, the case reveals the practical challenges minority shareholders might encounter. The requirement to prove support from a notable part of the independent minority can be a major barrier, particularly when majority shareholders align with alleged wrongdoers. This ruling confirms the boundaries of common law and statutory choices for minority shareholders and demonstrates the necessity for careful planning before initiating such actions.
Comparing Statutory Derivative Actions with Other Choices
Smith v Croft (No 2) contrasts statutory derivative actions with other choices for minority shareholders, such as unfair prejudice petitions under Section 459 of the Companies Act 1985 (now Section 994 of the Companies Act 2006). The judgment states that the statutory derivative claim focuses on harms to the company, while unfair prejudice petitions handle shareholder interests. This distinction shows the importance of selecting the correct choice based on the case facts. Cases like Foss v Harbottle (1843) 2 Hare 461 clarify the background of the proper plaintiff rule and its restrictions on shareholder actions.
Conclusion
The judgment in Smith v Croft (No 2) reviews the challenges minority shareholders encounter in pursuing derivative claims. The case explains the "significant portion" requirement under the Companies Act 1985 and establishes a process for determining the independent minority. The decision reveals the practical difficulties in obtaining shareholder backing and stresses the need for careful planning in such cases. By confirming the proper plaintiff rule and interpreting statutory rules thoroughly, Smith v Croft (No 2) remains a leading precedent for understanding minority shareholder litigation and managing the prevention of misuse with safeguarding legitimate shareholder interests, particularly concerning principles from cases like Foss v Harbottle. This case is a main resource for legal professionals and scholars involved in corporate law and shareholder rights.
