LORDS AMENDMENT TO COMMONS AMENDMENT No. 193 (Hansard, 27 March 1980)

§ Lord WEDDERBURN of CHARLTON
My Lords, I beg to move as an amendment to Commons Amendment No. 193, Amendment No. 193B. It falls to me to move this amendment in the name of myself and my noble and learned friend Lord Elwyn-Jones. This is one of a series of amendments which I hope noble Lords will accept as being an attempt, even at this eleventh hour, to improve the Bill in the sense—which I mentioned to your Lordships earlier this afternoon—of removing the type of ambiguities which would make the Bill pregnant with litigation when it need not be so. In saying that, I would say at once the I shall not be swayed by an argument that merely says that the Bill is roughly the same as the 1978 Bill, because it may be possible to improve upon that as well.
At last the noble and learned Lord the Lord Advocate's advisers and the advisers to the noble Viscount have the prosect of a Companies Bill actually going on to the statute book, having seen two founder in the last decade through the misfortunes of various parties at elections. Now that we are to have a Companies Act, it will be my submission to your Lordships' House that this House must do every 1028 thing it can to clarify, and not leave it to the litigant, whoever he may be—be it shareholder or company—to sort it out.
May I preface my substantive remarks on this amendment by saying that, in my own opinion at least, subsection (2) has nothing to do with industrial democracy or employee participation? The noble Viscount will have noticed that already this afternoon I and my noble friends have exercised great restraint in regard to the matter of political contributions, although the noble Lord, Lord Lloyd of Kilgerran, dangled the bait before our eyes. We are also being very restrained, compared with our honourable and right honourable friends in another place, in not entering into the field of worker participation through this clause. Indeed, much more importantly, were I moving amendments to deal with worker participation, they would take up a much greater space on the Marshalled List than this very brief amendment.
Of course, technically at least, this clause does nothing to alter the status of the employee as a litigant on the company law stage. I accept what the noble and learned Lord the Lord Advocate has said, that to allow, and indeed require, directors to take into account employees' interests in discharging their basic duties, leaves them with the problem of balancing those duties against the interests of the shareholders in rather the same way as today, when, as it were, the hard core of their duty is to consider the best interests of the company, meaning thereby the best interests of shareholders, in their direct considerations, and to balance the interests of, say, the ordinary shareholders against those of preference shareholders or any other group.
The employee does not enter the company stage as a litigant unless he becomes something else. If he buys a share, then he may bring a shareholder's action where that is permitted, just as if a hank buys a share it comes in as a shareholder and not a bank. Therefore, if I may, I shall approach this amendment with that initial consideration.
The noble and learned Lord the Lord Advocate has allowed me to abbreviate one part of my argument, in which I am glad to concur with him. It is that this 1029 clause in the Bill deals with what I have called the "hard core" of the directors' duty, just as did the same clause, although in slightly different terms, in the 1978 Bill. There is nothing more fundamental—and the case law bears this out—than the overall duty of directors of the company to act in what they consider—not what the court considers, to use the phrase in the leading case—to be the best interests of the company. That is fundamental to all the aspects of directors' duties.
The right honourable friend of the noble Lord, Mr. Parkinson, made it quite clear in Committee on 27th November, at columns 362 to 363,—just as the noble Lord, the Lord Advocate has made it plain today—that the Government's view is that this clause in its entirety goes to reshape the fundamental duty of directors, a duty which they owe to the company. On that, I believe that we are on common ground. The trouble with the clause as it stands concerns the very words which the noble and learned Lord the Lord Advocate read out: …is enforceable in the same way as any other fiduciary duty owed to a company by its directors". Those words assume that there is only one way in which fiduciary duties are enforceable; or, in another respect, that there is only one type of fiduciary duty It is my submission that that is not a correct view of the law; that there are two distinct areas of fiduciary duty, although the commentators argue as to where exactly the boundary should be drawn.
Perhaps I may speak of them in this way. The first area is the lower duty or the normal duty—the duty of the fiduciary to act in the best interests of the recipient of his duty, and take the correct interests into account and other aspects; not to make a secret profit out of his office and not to allow a conflict of duty and interest. Those points are fundamental and they then lead us to the rule in Foss v. Harbottle in 1843 in the first volume of Hare's Reports, with which I have had the pleasure of living in company law for some 20 or 30 years. The basis of the case of Foss v. Harbottle is, of course, that in enforcing the ordinary fiduciary duty, the company is the only possible plaintiff. One concomitant and result of that is that in the ordinary way the general meeting of shareholders can absolve the directors from a breach of the ordinary fiduciary duty.
1030 I should like to quote Lord Justice Harman in the case of Bamford v. Bamford in 1970 in the Chancery Reports at page 211. He says that where directors have broken their duties to the company: such directors can, by making a full and frank disclosure and calling together the general body of shareholders, obtain absolution and forgiveness of their sins". In that colourful way Lord Justice Harman was clearly referring to the nature of the normal fiduciary duty enforceable only by the company, ratifiable and validated by a general meeting of the shareholders.
But there is a second category, a higher fiduciary duty, going to what I have already called the core of the fiduciary duty of directors. In respect of that, the duty to act in the best interests of the company—which is reshaped by this clause, as it would have been reshaped by Clause 46 of the 1978 Bill—brings into play a number of further considerations. First, what are the areas of this higher or more important area of fiduciary duties? I should like to quote the three instances given by Professor Gower's book, Modern Company Law, in the fourth edition last year. In quoting it, may I say although I was a co-editor and had the privilege of working with Professor Gower, I am sure that noble Lords will know better than I that the text is what Professor Gower approved in the end? We were all equal, but he was more equal than the other co-editors. The three instances which Gower's Modern Company Law gives at page 648 are these:
(a) Expropriation of the property of the company …

(b) Breach of the directors' duties of subjective good faith, and
(c) Voting for company resolutions not bona fide in the interests of the company as a whole". I venture to suggest that none of the authorities and commentaries would disagree with that very succinct summary of the hard core of the higher fiduciary duty.
Where the director breaks, or the directors break, that higher duty the position in regard to litigation is very different. First, if the plaintiff can show that the directors have broken their duty and acted in that fundamentally wrongful way and are in control of the company, then today the cases have at last made clear that he may bring a derivative action if he falls into the category of a minority shareholder; may bring it, that is, with the leave of the court.
1031 I pause to comment that in law it is quite clear that the words "derivative action" today imply all the necessary conditions being met, in that the words "derivative action" have been made quite clear by the Court of Appeal in the case of Wallersteiner v. Moir (No. 2) in 1975 in the Queen's Bench Reports at page 373. It has been made quite clear by the Court of Appeal in that case that English law today does know of what the United States courts have for many years called the derivative action.
If I may summarise the words on page 647 of Gower's Modern Company Law, he there sets out—I shall not quote it but I refer to it for authority, which I am sure the noble and learned Lord will accept—that one of the exceptions to the rule in Foss v. Harbottle is just this situation where a fundamental hard core duty has been broken, where the director defendants are in control of the company, the plaintiff is a minority shareholder, and the court gives leave and allows the derivative action to go ahead. Indeed, in Wallersteiner v. Moir itself the passage on page 647 of Gower on which I have relied was expressly approved by two members of the Court of Appeal.
What therefore it comes to is that the words "any fiduciary duty" in subsection (2) just will not do because that leaves it to the courts, in what will undoubtedly be great and important litigation, to decide into which category Parliament thought that this duty lay. It is always amusing for lawyers, as the noble and learned Lord will know better than I, to come across, in the words of the judge, "What was the intention of Parliament?" because usually if we go back to the debates we find that Parliament did not think about the question at all. What I am trying to do today is to ensure that Parliament has thought about this question and does not pass what is a phrase which will undoubtedly give rise to expensive litigation in a major case.
What my amendment would do would be, in effect, to add to the clause what I believe to be only a declaratory provision. To quote the words of Amendment No. 193B, the duty would be: enforceable as a fiduciary duty owed by its directors to a company by way of either an action brought by the company itself or a derivative action brought by a member of the company". 1032 That last phrase, as I have suggested, fits precisely the legal category which has now been clearly established by the Court of Appeal in the Wallersteiner decision.
If that were put in, it would make the clause clear. Above all, at the moment it is obfuscated by a failure to make the distinction. I must say to noble and learned Ministers that albeit academic commentators are not always the best guide, there is already a school of thought among them which takes a rather poor view of this clause—a much poorer one than I do myself, because I believe it to be wholly beneficial to the state of our company law, which is why I and my noble friends would wish to improve it.
If the noble and learned Lord looks in the new journal, the Company Lawyer for 1980, at page 73 he will find the author, a Mr. Birds, of a quite interesting and challenging article stating: In conclusion one wonders whether this clause has any really effective meaning at all, and whether it was not in fact intended merely as window-dressing". I make it plain immediately that I do not share that criticism, but I accept some of the reasoning which led Mr. Birds to his conclusion, one of which was that it is not clear how the duty is to be enforce; whether it is by derivative action or not.
I wish to stress that the words in the amendment "by way of…a derivative action do not suggest that the minority shareholder would always have the right to bring an action to enforce the company's rights, because of course a derivative action is an action to enforce not his rights but the company's rights by way of exception to the rule in Foss v. Harbottle. A derivative action lies only where the defendants are in control of the company and where the court gives leave, as an exception to the normal rule in Foss v. Harbottle, and where the defendants are directors and a fundamental duty is broken.
The noble and learned Lord will know that I have had some discussion with the noble Viscount about this, although briefly, and I would be very disappointed if noble Ministers felt it necessary to resist this amendment. It may be that the words are not precisely right, although as at present advised I would defend them. I would defend them on the ground that 1033 it is the most concise way to describe some animal which has been placed firmly in the legal zoo by the Court of Appeal, to use precisely the words that the Court of Appeal has used, and the words "derivative action" now have a legal meaning which carries the concomitants that I have advanced. I very much hope that the noble and learned Lord will at least give us some expression of sympathy for this amendment, because I believe it to be one which will avoid litigation, which is I believe part of the job of your Lordships' House.

§ Lord LLOYD of KILGERRAN
My Lords, it has to be said that relative brevity is a novel concept in the area of discussions on company law. I propose now to disprove this generalisation by saying very briefly that I support the submission of the noble Lord, Lord Wedderburn, that at least the words "a derivative action" should be included somehow in this clause.

§ Lord MACKAY of CLASHFERN
My Lords, I think it would be right for me to say that I appreciate very much the manner in which the noble Lord, Lord Wedderburn, has explained his point of view, and particularly for the observation that he made in relation to the article in Company Lawyer, that he does not accept the view that this clause is merely window-dressing but is an important clause as it reshapes the fundamental duty which directors have to perform. I certainly also appreciate his desire to make the matter as clear as it is possible to make it, and to avoid unnecessary litigation.
Perhaps I should say also, to make the matter plain, that this clause would apply in Scotland as well as in England. Therefore, the fact that the Court of Appeal in England has used the phrase "a derivative action", only I think fairly recently, is not perhaps a very secure foundation for making provisions for the United Kingdom as a whole. However, I am sure that the courts in Scotland, if this clause came before them, in the words of the noble Lord would be able to at least get some im 1034 pression of what it was driving at. However, I feel that the analysis which the noble Lord has put before us demonstrates plainly that the question whether or not a derivative action is available depends not so much on an analysis of the nature of the duty owed, as on the particular circumstances in which the question has arisen.
I agree that there is a good deal of discussion in the text books, and that of Professor Gower prints a very clear discussion of the matter, but notwithstanding that, I believe that when one looks at it closely one discovers that the question whether derivative action is to be available is a matter of whether it is just in particular circumstances to allow a minority of shareholders in effect to use the name of the company as the only way to achieve justice. I submit that the words proposed by the noble Lord in this clause at least suggest that a derivative action would be open in all circumstances, either at the option of the person seeking to take it, the company itself, which could raise this action, or persons entitled to derivative action could do so.
I know he has said—and I have taken this into account in what I have just said—that the Court of Appeal has described derivative action as one available in particular circumstances where the right was derived in effect from the company, but I believe that the clause as drafted contains that particular difficulty. Also, I believe that the phrase "derivative action" is used in the United States, as I think the noble Lord said, but I am not certain that the conditions under which it is available are necessarily the same as they are here.
Accordingly, although I appreciate we are a difficult area, we are trying to arrive at as precise an anser as possible. I believe that the answer contained in the Government Amendment—which I assure the noble Lord has been very carefully considered—is the best answer in the present circumstances; and therefore I regret that I am not able to accept the noble Lord's amendment.

§ Lord WEDDERBURN of CHARLTON
My Lords, I thank the noble and learned Lord, Lord Mackay of Clashfern, for his patient resistance. I have to admit, as an English lawyer, that as soon as I heard him say that this would have to apply in Scotland, my heart sank. That 1035 is always a problem for an English lawyer, but in reply I would say that those who have spent some time with the areas of company law with which this is involved have always felt the most heartfelt gratitude to the Scottish courts because, with respect to the English courts, they have always been more sensible—for example, in regard to the oppression of minority shareholders. I am sure that the nobe and learned Lord would agree that the Scottish courts would have fewer problems than the English courts in dealing with derivative actions.
However, before I deal with the amendments I have two points to make in reply to the noble and learned Lord. First, he said that derivative action depends only on the circumstances: whether it is just in the circumstances to allow the plaintiff minority shareholder to sue, and not on the nature of the duty. I suggest that that is wrong, that there is no case, although there are some dicta that suggest that justice may allow an exception to Foss v. Harbottle. The only decisions which exist show that the nature of the wrongdoing is essential, and that the three categories given in Gower's Modern Company Law are quite clearly the authorities at the moment and they indicate that that is the area in which the derivative action would apply.
Lastly, I must say that the noble and learned Lord's argument really does not lead him to resist this amendment. As I understand it, what he is saying is that the clause as it stands, as the Government would have it, would allow for derivative action if the court were to allow it. He may correct me if I have misunderstood him. As I understood it, the duty is to be enforceable by the company, that is, normally in the company's name, but where the court allows, an exception to the rule of Foss v. Harbottle then a derivative action may lie at the instance of a minority shareholder. If that be right, then all my amendment would need would be a manuscript addition, because what the noble and learned Lord has really said is that my amendment should read, enforceable either by way of action brought by the company itself or a derivative action brought with the leave of the court by a member of the company". That would spell it out and say exactly 1036 What the noble and learned Lord has said. It appears that that would say what I have said, effectively. But it would not say what the clause says, that is, that it is only enforceable by the company. That would leave open the question, on its text at least, where the derivative action lies. I cannot understand why the noble and learned Lord resists this amendment when all it needs, on his own argument, is the addition of the words, "with the leave of the count".If,however, it be his wish,and he does not ask your Lordship' leave to interven again in this clause even now,then I shall ask your Lordship for permission withdraw it.