Kleanthous v Paphitis [2011] EWHC 2287 (Ch)

A minority shareholder sought permission to continue a derivative claim against directors for allegedly diverting a business opportunity (La Senza acquisition) to a company owned by the majority shareholder. Permission was refused as the court found the claim lacked sufficient merit, independent committees opposed it, and alternative unfair prejudice remedies were available.

Facts

Mr Kleanthous, a 15.5% shareholder in Ryman Group Limited (RGL), sought permission under section 261 of the Companies Act 2006 to continue a derivative claim on behalf of RGL and its subsidiary Ryman Limited against four directors. The claim arose from events in 1998 when Mr Paphitis, the majority shareholder (72.4%) and director, acquired La Senza plc through his personal company Xunely. RGL provided loans and guarantees to facilitate this acquisition. Mr Kleanthous alleged the directors breached their fiduciary duties by diverting a corporate opportunity away from RGL and using company assets for Mr Paphitis’s personal benefit.

Background to the Transaction

In June 1998, Mr Paphitis acquired Suzy Shier’s 60.2% stake in La Senza for £1 through Xunely, subject to indemnities. RGL’s board approved loans of up to £1.8 million to Xunely and provided guarantees. Mr Cooke and Mr Towner became directors of Xunely. In 2006, Xunely sold 90% of La Senza for over £100 million.

Issues

The key issues were: (1) whether permission should be granted to continue the derivative claim under section 261 of the Companies Act 2006; (2) whether the statutory bars in section 263 applied; (3) whether the claims had sufficient merit; and (4) whether limitation defences applied.

Judgment

Mr Justice Newey refused permission to continue the derivative claim. The court applied the framework in sections 261-263 of the Companies Act 2006.

Section 263(2)(a) – Hypothetical Director Test

Regarding Mr Childs, the court held:

I have been persuaded by Mr Snowden and Mr Michael Todd QC… that section 263(2)(a) is in point as regards Mr Childs. He is in a somewhat different position to Mr Cooke and Mr Towner since he never had any interest or role in Xunely.

Merits of the Claim

The court found:

My overall conclusion is that there are arguable claims against the Director Defendants, but the chances of the claims succeeding are significantly less than evens. The claim against Mr Childs strikes me as particularly weak.

Independent Committee Decision

RGL and RL established committees of independent directors who concluded that pursuing the claim would not promote the success of the companies. The court gave considerable weight to this:

Mr Kyprianou and Mr Lakin are better placed than I am to assess where the companies’ commercial interests lie.

Alternative Remedies

The court considered the availability of unfair prejudice proceedings under section 994:

I agree with Mr Todd that the availability of an alternative remedy in the form of an unfair prejudice petition is a powerful reason to refuse permission for the derivative claim to proceed in this case.

Implications

This case provides important guidance on the application of Part 11 of the Companies Act 2006 regarding derivative claims. It confirms there is no threshold merits test for permission, but the strength of the claim remains relevant. The court emphasised the significance of independent board decisions opposing litigation and the availability of alternative remedies. The judgment demonstrates that courts will be reluctant to permit derivative claims where much of any recovery would return to defendant shareholders through distributions, and where independent directors have reasonably concluded litigation is not in the company’s interests.

Verdict: Permission to continue the derivative claim was refused and Mr Kleanthous’s application was dismissed.

Source: Kleanthous v Paphitis [2011] EWHC 2287 (Ch)