Derivative action CASES

A derivative action is a claim brought by a shareholder in the company’s name to remedy a wrong committed against the company, typically by directors.

The modern statutory framework is found in Part 11 of the Companies Act 2006.

Definition and principles

The claim is brought by a member, but on behalf of the company.

Any remedy (damages, restitution, injunction) is granted to the company, not the shareholder personally.

Court permission is required before the claim can proceed.

Derivative actions are most commonly used where directors are alleged to have:

• Breached their fiduciary duties
• Acted negligently
• Misapplied company property
• Placed themselves in a position of conflict of interest

The court applies a two-stage permission process, filtering out unmeritorious or tactical claims.

Multiple derivative action

A multiple derivative action arises where the claimant seeks to bring a derivative claim through a chain of companies.

This typically occurs in group structures. For example:

• A shareholder in a parent company seeks to bring a claim on behalf of a subsidiary.
• The alleged wrongdoing has harmed the subsidiary rather than the parent directly.

Although not expressly set out in the 2006 Act, the courts have recognised the availability of such claims in appropriate circumstances, particularly where justice would otherwise be denied.

The rationale is that corporate group structures should not shield wrongdoing simply because the injured company sits lower in the chain.

Common law derivative claim

Before the statutory regime, derivative proceedings developed under common law principles. These arose as exceptions to the rule in Foss v Harbottle, which established that the company is the proper claimant in respect of wrongs done to it.

The Companies Act 2006 preserves derivative claims within a structured statutory framework, but common law principles remain relevant, particularly in:

• Interpreting the scope of statutory derivative claims
• Determining the availability of multiple derivative actions
• Situations falling outside the statutory scheme

Historically, common law derivative claims were permitted where:

• The alleged wrongdoers controlled the company, and
• The wrong constituted fraud on the minority.

Legal implications

Derivative proceedings are exceptional. The court will refuse permission where:

• A director acting in accordance with the duty to promote the success of the company would not continue the claim.
• The shareholder is acting in bad faith.
• The claim could be ratified by independent shareholders.

Where successful, relief belongs to the company. The claimant may, however, seek indemnity for reasonable litigation costs.

Practical importance

Derivative claims play a crucial role in corporate accountability. They:

• Provide minority shareholders with a mechanism to challenge director misconduct.
• Prevent abuse of control by majority shareholders or boards.
• Ensure that corporate personality does not become a shield for wrongdoing.

At the same time, the permission filter protects companies from disruptive or opportunistic litigation.