Statutory Derivative Action: Meaning and Provisions

A statutory derivative action is a type of shareholder remedy and is governed under Part 2F.1A (ss.236-242) of the Corporations Act 2001 (C’th). Should the statutory derivative action in Australia be reformed and why? Discuss fully.

In Australia, the company matters are governed by the Corporation Act 2001 (Cth). This Act has provided certain provision for securing the interest of the shareholders by prescribing the duties of the directors. It has been stated that if the directors of the company will fail to perform their duties, the shareholders can bring certain action against them. Statutory derivative action is such action. It is a common rule that if a director could not able to perform his duties prescribed by law, the Board of Directors can take action against him. Under the derivative action, a shareholder can bring action against the alleged director under certain circumstances (Stylianou 2017). However, there are certain loopholes present in this system and certain reforms are required to amend the provisions of the action. In this report, a brief discussion on it has been made.   

Statutory derivative action

The nature of statutory derivative action is corporate-based. This action can be taken against a director of the company by a shareholder. According to Section 236 of the Corporation Act 2001, the shareholders have the right to bring an action against the director of a company if the director has not performed their duties (Chen 2017). The duties of the directors have been discussed under certain sections of the Corporation Act 2001. According to section 180, a director should have to take proper care in case of dealing with the shareholders. He must act in good faith as stated under section 181 of the Corporation Act. If a director will misuse his or her position, he will be liable under section 182 (1) of the Act. In case a director continue to trade while the company has become insolvent, he will be liable under section 588G of the Act. However, the common rule is that in such circumstances, the Board of Directors will take all the necessary actions against the alleged director. Dilemma arose when the member of the Board has made any violation to the rules. Possibility of partiality may crop up in such cases and the interest of the shareholders can be at risk. To curb this, Corporation Act has added certain provisions so that any shareholder can bring an action against any directors against whom any act of infringement had alleged. However, there are certain conditions that have been prescribed in case of Foss v Harbottle (1843) 67 ER 189.

Conditions for Bringing Statutory Derivative Action

If the applicant is acting in good faith and submit petition before the court for leave to bring in the proceeding, his application can be granted on the satisfaction of the court and the required proceeding has been inserted under section 237 of the Corporation Act 2001.

It has been mentioned under section 239 of the Act, a member of the company can be brought under a proceeding though he has ratified the conduct and it is not true that the decision of the court could be go in favour of them.  

If the court is satisfied enough to impose a cost upon the respective party, it can do so under section 242 of the Corporation Act 2001.

The court can order for the inspection of the company books or the registered of the company with an intention to probe into the matter in dispute. All these sections are known as the derivative action as per the provision of Corporation Act 2001.

How it works as a remedy for the shareholders?

Certain rules have been prescribed by the court for the proper application of statutory derivative action. It was stated by the court in Foss v Harbottle (1843) 67 ER 189 that a shareholder will get this option only if his personal rights have been infringed. In addition, the shareholder may bring an action if a fraud or injustice has been taken place (Wong and Yeo 2015). Otherwise, the shareholder could not take any action against the director. Certain changes to this rule has been made in Edwards v Halliwel [1950] 2 All ER 1064, where it has been decided that if the action of the director will be go against the policy of the company, or any non-compliance has been made by the director, shareholders will get an opportunity to bring an action against the directors (Keay 2016). However, it has been stated in Barrett v Duckett [1995] 1 BCLC 243 that if there is a chance to get additional remedies for the shareholders, he cannot make any claim under this provision.

Before the provision, a shareholder had no right to claim anything against the director of the company. They had to depend on the Board of Directors as the common law considers the company as a legal person. Therefore, if any mishap takes place, only the company get the option to take action against the alleged director. Problem arose if the alleged director was a member of the Board of Director. In such circumstances, much possibility of partiality cropped up and the interest of the shareholders became insecure.

Loopholes and Reform of the Statutory Derivative Action

There is a demand made for protecting the interest of the shareholders and section 236 to section 242 were added under the Corporation Act 2001. Rights have been given to the shareholders under section 236 of the Corporation Act to bring any action on behalf of the company. The shareholder may make an application for leave before the court under section 237 of the Corporation Act. This provision of statutory derivative action has given right to the shareholders to express their views before the court. It has been held by the court that if the personal right of the shareholder could at any time be violated by the director, the shareholder can take an action against the director (Tang 2016). Therefore, if any director restricts the right to cast vote or prevents the shareholders to transfer their shares to the third party, the shareholder shall have the option to go against the director and make a claim under the provision of statutory derivative action. 

Reasons for reformation

The statutory derivative action has given an opportunity to the shareholders to make a direct claim against the directors before the court. However, there are certain loopholes present under the provisions. The provision of statutory derivative action has also been a part of the Company Act 2006 and it has been observed that the relevant provisions on the same are quite self contradictory in nature. According to section 260 of the Company Act, any member can bring an action against the company director (Salim 2016). On the other hand, according to section 260 (5), the member should have to be that person whose shares are transmitted by any operation of law. Again, section 260 (3) prescribes that the member can only bring an action against the director if any cause of action arose to that aspect. Therefore, the provision of statutory derivative action is complex in nature.

Further, the shareholder can bring an action against the directors only, but he cannot apply the provision against any third party. Therefore, if the interest of the shareholder will be affected by the act of the third party, suppose by the auditor, he shall have no option to make any claim against the auditor before the court and in such situation, he has to depend on the decision of the Board of Director.

Again, it is the discretionary power of the court to accept the prayer of the shareholder. The judges are not mandatorily started a proceedings against the directors after receiving an application from the shareholders. Therefore, the court may accept the prayer or refuse the claim (Baxt, Wockner and Janson 2017). In case of refusal, the shareholder may have to face detrimental trauma in the company.

Conclusion

Process of reformation

Many legal scholars have raised their voice against the loopholes of the provision and it has been stated by them that this provision could not make a positive effort to secure the interest of the minor shareholders and confirm them justice. Payne supports the provision and states that the provision will help the shareholders from getting abused in the hand of the directors and will protect them from unnecessary litigations.

However, Hirt has made an objection by stating that the court is given certain ratification period to make an inquiry to the allegation. There are many possibilities that the investigation report will get influenced by the company directors and the true report will not be submitted before the court. Therefore, the scope of derivative action can be restricted.

According to J.P. Sykes, the burdensome procedure of the company will diminish the effect of statutory derivative. Hannigan stated that the process of statutory derivative will increase the number of suits and the shareholders may get a scope to bring action against the company directors.

However, there is a scope to make reformation under the present conditions and should remove the loopholes present in the provisions. An amendment is required to correct the contradictory provisions and make the provision suitable for the shareholders so that their interest can be get protected (Douglas and Bath 2017). 

Conclusion

The provision of statutory derivative action has given certain opportunities to the shareholders so that their rights can be protected against the wrongful acts of the directors. However, there are certain weak points present in the provision. Kyrou was of the view that this action will facilitate the application process of the shareholders and they could easily get the remedies by placing proper action against the alleged directors. However, there should be certain procedures so that the shareholders may not misuse their position or power. If the existing provisions should not get reformed, the ultimate object of the action will not be fulfilled. Therefore, it can be stated both the sides of the directors and the shareholders are required to be reformed in a systematic way so that there can be a good balance made for the sake of justice

References

Baxt, R., Wockner, T. and Janson, S., 2017. ANNUAL REVIEW OF CORPORATIONS LAW.

Chen, V., 2017. The Statutory Derivative Action in Malaysia: Comparison with an Australian Judicial Approach.

Douglas, M. and Bath, V., 2017. A New Approach to Service Outside the Jurisdiction and Outside Australia under the Uniform Civil Procedure Rules.

Keay, A., 2016. Assessing and rethinking the statutory scheme for derivative actions under the Companies Act 2006. Journal of Corporate Law Studies, 16(1), pp.39-68.

Salim, M.R., 2016. Whither the Common Law Derivative Action? A Malaysian Case Study.

Stylianou, A., 2017. Evolution of the derivative action as an enforcement of rights mechanism under the Companies Act 71 of 2008.

Tang, S.S., 2016. Corporate avengers need not be angels: rethinking good faith in the derivative action. Journal of Corporate Law Studies, 16(2), pp.471-491.

Wong, R.J. and Yeo, W.A.J., 2015. Rationalizing the Notice Requirement for Statutory Derivative Actions: Comparing Singapore and Canadian Perspectives. SAcLJ, 27, p.52