comments and notes a commentary on the derivative action under ...

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81 COMMENTS AND NOTES A COMMENTARY ON THE DERIVATIVE ACTION UNDER THE LESOTHO DRAFT COMPANIES BILL OF 2006 A. O. NWAFOR' I. INTRODUCTION The rule in Foss v Harbottle 1 makes it clear that a court will not ordinarily intervene in a matter which it is competent for the company to settle itself or deal with an irregularity which the company can ratify or condone under its own internal procedures. Where it is alleged that a wrong has been done to a company, prima facie, the only proper plaintiff is the company itself. The rigidity of the application of this rule and the inherent injustice it may cause to minority shareholders has given rise to various judicial and lately, statutory exceptions under which minority actions, not only for the enforcement of personal rights, but also corporate rights, are recognised. Where the personal right of the shareholder is affected, the rule does not have any application as the shareholder could sue in his name as the plaintiff while the company is the defendant. Similarly, a shareholder could maintain an action for himself and on behalf of other shareholders in a representative capacity where the rights of a number of shareholders are infringed. These types of action obviously do not pose any difficulty as the shareholder is merely asserting his right or rights which he enjoys with some other members of the company. Problems often arise where the shareholder is seeking to enforce a right which strictly belongs to the company. There is always a question of locus standi in such a situation. The law does not debar a shareholder from enforcing company's rights, but the shareholder must do so on behalf of the company and in due compliance with settled prerequisites appertaining to such action, such as satisfying the court that the wrong complained against constitutes fraud on the minority, the plaintiff comes with clean hands and is pursuing the action in good faith, and that the wrongdoers who are in control would not seek remedy on behalf of the company.2 The device through Ph.D., Senior Lecturer, Faculty of Law. National University of Lesotho. (1843) 2 Hare 461. See also MacDougall v Gardner (1875) 1 Ch D 13. Edwards v Halliwell [19501 2 All ER 1064. 2 These requirements are discussed in some details below. Reproduced by Sabinet Gateway under licence granted by the Publisher (dated 2009).

Transcript of comments and notes a commentary on the derivative action under ...

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COMMENTS AND NOTES

A COMMENTARY ON THE DERIVATIVE ACTION UNDER THE LESOTHO DRAFT COMPANIES BILL OF 2006

A. O. NWAFOR'

I. INTRODUCTION

The rule in Foss v Harbottle1 makes it clear that a court will not ordinarily intervene

in a matter which it is competent for the company to settle itself or deal with an

irregularity which the company can ratify or condone under its own internal procedures.

Where it is alleged that a wrong has been done to a company, prima facie, the only

proper plaintiff is the company itself. The rigidity of the application of this rule and

the inherent injustice it may cause to minority shareholders has given rise to various

judicial and lately, statutory exceptions under which minority actions, not only for the

enforcement of personal rights, but also corporate rights, are recognised. Where the

personal right of the shareholder is affected, the rule does not have any application

as the shareholder could sue in his name as the plaintiff while the company is the

defendant. Similarly, a shareholder could maintain an action for himself and on behalf

of other shareholders in a representative capacity where the rights of a number of

shareholders are infringed. These types of action obviously do not pose any difficulty

as the shareholder is merely asserting his right or rights which he enjoys with some

other members of the company.

Problems often arise where the shareholder is seeking to enforce a right

which strictly belongs to the company. There is always a question of locus standi

in such a situation. The law does not debar a shareholder from enforcing company's

rights, but the shareholder must do so on behalf of the company and in due compliance

with settled prerequisites appertaining to such action, such as satisfying the court that

the wrong complained against constitutes fraud on the minority, the plaintiff comes

with clean hands and is pursuing the action in good faith, and that the wrongdoers who

are in control would not seek remedy on behalf of the company.2 The device through

Ph.D., Senior Lecturer, Faculty of Law. National University of Lesotho. (1843) 2 Hare 461. See also MacDougall v Gardner (1875) 1 Ch D 13. Edwards v Halliwell [19501 2 All ER 1064.

2 These requirements are discussed in some details below.

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which a shareholder can enforce company's rights is referred to as derivative action.

This commentary attempts to examine this judicial device which has

continued to elude the comprehension of many a practitioner and students of law

alike, as evidenced by a number of court cases which often get terminated prematurely

for lack of locus standi by the plaintiff who is seeking to enforce company's rights

without complying with the requirements for doing SO.3 The emphasis is however on

the draft Companies Bill, 20064 of Lesotho which attempts to codify certain aspects

of this rule.

2. CONCEPT OF DERIVATIVE ACTION

The derivative action is an action instituted by one or more shareholders seeking to

enforce a right which belongs to the company and not to the individual shareholders.

The action is referred to as a derivative action because the right of action belongs to

the company and the power of the shareholder to institute the action is derived from

the company.

This type of action was formerly referred to as minority shareholder's action

in England until 1975 in the case of Wallersteiner v Moir No.25 where the court

adopted the American courts' description of the same as a stockholders' derivative

action. Lord Denning, MR in that case said:

"The form of action is always A.B.(minority shareholder) on behalf of

himself and all other shareholders to the company against wrong doing

directors and the company."6

The essence of joining the company and the wrongdoers as defendants is to enable

the company benefit from any judgment which may result from the action. It has been

described as highly misleading to find that an action to enforce the company's rights

takes the form, apparently, of an action against the company. The justification for this,

however, is that the company cannot be made a plaintiff unless the board of directors

3 See for instance Danish Mercantile Co Lid v Beaumont [1951] Ch 680; Airways Lid v Bowen [19851 BCLC 355 where the coun had to suspend proceedings for the meeting of the shareholders to be convened to decide whether litigation should continue.

4 Hereinafter called the Bill. 5 [19751 QB 375 Scarman, U observed that the American description of a minority shareholder's action brought to

obtain redress for the company as a stockholders' derivative action is apt. 6 Ibid at p. 390.

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or the general meeting have consented to the proceedings.7 Where such consent is

given, which is not likely, there cannot be a derivative action as the company will

then maintain the action in its own name as the proper plaintiff under the rule in Foss

v Harbottle. It is in realisation of the fact that the company is the direct beneficiary

of such an action that the English Court of Appeal in Wallersteiner's case recognised

that in appropriate cases the shareholder should be indemnified by the company for the

cost of bringing the action on the company's behalf.

The difference between a derivative action and a representative action is that

the shareholders derivative action involves the assertion by a shareholder of a corporate

cause of action against persons, either within or without the corporation, who have

allegedly wronged it, where the corporation has failed to enforce such claim directly.

On the other hand, the representative action involves the enforcement by a shareholder

of a cause of action which accrues to him and other members of the company, except

the wrongdoers, against the company and possibly the wrongdoers.s

3. CONDITIONS FOR INITIATING THE DERIVATIVE ACTION

Derivative actions are not lightly initiated as the shareholder seeking to maintain such

an action must fulfil some basic requirements to establish his locus standi to pursue

a relief which ordinarily should be sought by the company in its own name. The two

basic requirements are that the shareholder must show: (i) that fraud is being committed

against the minority of the shareholders;9 (ii) the wrongdoers are in control of the

affairs of the company and would not allow any action to be brought by the company

against them in the company's name.1O The Nigerian Court of Appeal restated both

requirements in Sparks Electrics Ltd v Ponmile ll where Nnaemeka Agu, JCA said:

"All I wish to say is that it is not every case of fraud on a company that

comes within the exceptions. What comes within the exceptions is an

7 P.L. Davies and D.O. Prentice, Gower's Principles of Modern Company Law, 6'" ed., London. Sweet & Maxwell Ltd (1997), p. 666. This assertion accords with the Nigerian Court of Appeal decision in Mokwe v Ezeulw [20001 14 NWLR (pl.686) 143 that only the board or the general meeting can maintain action for the company. See also Ladejobi v Odutola Holdings Lld [2002]3 NWLR (pI.753) 121.

8 See K.E. Barnes. Cases and Materials on Nigerian Company Law, Nigeria, Obafemi Awolowo University Press Ltd (1992). p. 387.

9 Wedderburn suggests that this should more appropriately be referred to as fraud on the company. See J.H. Farrar and B.M. Hannigan, Farrar's Company Law, 4'" ed., London, Butterworths (1998). p. 435.

10 Farrar's Company Law, ibid. II [19861 8 NWLR (pI.23)516.

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act which constitutes a fraud on the minority and the wrongdoers are

themselves in control of the company."12

3.1 Fraud on the Minority

What amounts to fraud on the minority has been the subject of diverse judicial and

academic opinions. In Yalaju Amaya v A.R.E.C. Ltd13 the Supreme Court of Nigeria

observed that the word "fraud" is difficult to define and then proceeded to attribute to

it a very wide definition in the following terms:

"It at least appears clear that any act which may amount to an infraction

of fair dealing, or abuse of confidence, or unconscionable conduct,

or abuse of power as between a trustee and his shareholders in the

management of a company, is fraud."14

Farrar had also observed that fraud in the context in which it is used here

includes not just fraud at common law but also fraud in the wider equitable sense of

an abuse or misuse of power. 15 Orojo similarly expressed the view that "the fraud

on the minority for the purpose of the exception lies in the directors' use of their

voting power and not in the character of the act or the transaction giving rise to the

claim."'6 Fraud has been found where directors appropriated to themselves a business

opportunity which the company was actively pursuing,17 self-serving negligence such

as selling the companies property at an under value to one of the directors. IS What is

obvious from these cases is that the term "fraud" as used here demands very little onus

in terms of proof. All that is required of the shareholder in this respect is evidence of

deprivation of the company of an existing opportunity, or that directors have benefited

. from the company's opportunity or property.

12 Ibid al p.422. 13 [1990]4 NWLR (pt. 145)422.

14 This definition seems to have been derived from the combination of decisions in Daniel v Daniel [1979] 2 All E.R. 89. EslifTumco (Kitner House) LId v Greater London Council [1982]1 All E.R. 437. Re A Company [1982] 132 NJL 830.

15 Farrarelal.op.cir.,at436. 16 O. J. Orojo, Nigerian Company Law and Praclice. 3'" ed .• Nigeria, Mbeyi & Associates Nig. Ltd (1992). p. 356.

But this may not be SO in all cases as the charncter of the transaction matters especially as relates to the power of the majority to ratify such transactions. See Hog!! v Cramphorn (1967) Cll 254. Bamford v Bamford (1970) Cll 212.

17 CookY Decks [1916] lAC 554. 18 Daniels v Daniels [1978] eh 406.

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3.2 Control by the Wrongdoer

The next thorny question is the issue of "control" by the wrongdoer. Control was

initially seen as voting control, that is, control attained by virtue of the number of

shares held by the wrongdoer. 19 But in Prudential Assurance Co Ltd v Newman

Industries Ltd (No.2)20 Vinelott J extended the meaning of control to include those

who do not have actual voting control, but who by their position in the company are

capable of manipulating the affairs to ensure that the majority would not allow a claim

to be brought against them.

Establishing that the wrongdoers are in control and would not seek redress

will certainly require the shareholder to show the effort made by him to persuade the

directors to sue in the company's name. This is fulfilled by serving a reasonable notice

on the directors demanding that they commence action in the name of the company to

seek redress for wrong done to the company. Their failure to comply is the root of the

minority shareholder's action.

The issues of wrongdoer control and fraud on the minority are so interwoven

that proving the existence of one will almost invariably lead to the establishment of

the other. This inference is apparent in the statement of Vinelott J in Prudential's case

where he said:

"If the control is being exercised so as to deprive the company of power

to sue for money due to it by way of damages or compensation, this

would seem to be a fraud on the minority."21

4. THE PROCEDURE FOR INITIATING THE ACTION

In order to appreciate the inadequacies of the Lesotho Bill in this regard, it will be

compared with similar provisions under the Nigerian Companies and Allied Matters

Act of 1990 (CAMA) which provides a procedure for commencing a derivative

action. To ensure that the courts are not inundated with cases seeking to enforce the

company's rights by minority shareholders when the company as a juristic person

ought to sue in its own name and guarantee judicial control over such actions, the law

requires that leave of the court must be obtained before such action is commenced

19 See Burland v Earle [1902] AC 83 at 93 Lord Davey held that an exception would be made 10 the rule in Foss v Harbottle "where persons against whom relief is sought themselves hold and control the majority of shares in the company and will not pennit an action 10 be brought in the name of the company."

20 11980]2 All E.R. 841. 21 Supra at 850.

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86 UNIVERSITY OF BOTSWANA LAW JOURNAL DECEMBER 2007

by the shareholder.22 The application for leave, which is usually made by motion ex

parte,23 must satisfy four conditions discussed below:

4.1 Disclose a Prima Facie Case

Prima facie means "of first appearance; on the face of it; based on a first impression,"24

"so far as can be judged from the first disclosure."25 The shareholder must allege

sufficient facts which, if true, would prove a breach of duty to the company which

is likely to go unremedied unless the action is allowed to proceed. Such facts are

usually disclosed in the pleading (statement of claim) annexed to the affidavit in

support of the motion. The facts as stated must be adequate to show acts of control

and wrongdoing by the directors. This is usually the appropriate test whether or not

specifically provided for by the statute.26

4.2 Notice to Directors to Seek Redress in Company's Name

The power to sue in the name of the company is part of the management powers

usually conferred on the board of directors. The shareholder seeking leave to sue must

show in the supporting affidavit that he has given reasonable notice to the directors

informing them ofthe need to pursue such a claim.27 Jt is the directors' failure, refusal

or neglect after such notice that gives justification to the minority shareholder's action.

The notice need not take any particular form so long as the substance is clear. In

Armstrong v Gardiner8 a Canadian Court explained the requirement of notice in the

following terms:

"Although the letters requesting action were not framed with great

particularity as to cause of action to be brought, they were directed to

a solicitor. I think that there was a sufficient demand made to bring

22 Section 303(1) of CAMA. See also section 239 of the Canadian Business Corporations Act, 1985. 23 Though neither the CAM A nor the Bill provides expressly for motion ex parte, that is the correct procedure as the

defendant is not yet before the court, unlike when the applicant is seeking to intervene in a pending suit in which caSe the application is by way of motion on notice as service is intended on the defendant. See Rule 8(4)(21) of High Court Rules of Lesotho, 1980.

24 LB. CUrlon, Dictionary of Law. 3'" ed .• London, Pitman Publishing (1989). p. 344. 25 See Northwest Forest Products Ltd, Re [1974J 4 WWR 724 (BC). 26 Bruce Welling, Corporate Law in Canada; The Governing Principles, 3'" ed., Queensland, Scribblers Publishing

(2006). p. 512. Canadian courts have used other terms such as "arguable case." Bellman and Western Approaches Ltd, Re (1981) 33 BCLR 45, "real and genuine dispute" Solanwn v Elkind (1976) 3 CPC 31, to explain what is meant by prima Jacie case. Section 303(2)(b) of CAMA.

28 (1978) 20 OR 2d 648 (Ont) at 652 per Cory. J. See section 239(2) Canadian Business Corporations Act, 1985.

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COMMENTS AND NOTES

an appropriate action by the two letters sent on behalf of the minority

shareholders."

87

Similarly in Re Bellman and Western Approaches Luj29 the court held that failure to

specify each and every cause of action in a notice does not invalidate the notice.

4.3 The Shareholder Must be Acting in Good Faith

The requirement of good faith is a reflection of the underlying equitable consideration

which gives a right of action to the minority shareholder. Such a shareholder must not

have benefited from or participated in the wrong complained against. He must honestly

be pursuing the relief in the interest of the company and not as a matter of personal

vendetta against the directors.3o The case of Nurcombe v Nurcombe11 illustrates this

principle. The plaintiff in that case held 34 per cent shares in CHN Investment Co. Ltd

and her husband had 66 per cent shares. The couple divorced but retained their shares

in the company. Mr Nurcombe negotiated a valuable property development deal on

behalf of the company and diverted the contract to another company in which he had

an interest. In matrimonial proceedings brought by the wife, Mr Nurcombe's wealth

was assessed on the basis that through his other company, he had benefited from the

diverted contract. He was ordered to pay a lump sum to his ex-wife inclusive of the

benefit of the diverted contract. After she had received the lump sum, Mrs Nurcombe

commenced a derivative action to recover for CHN Investment Co. Ltd the benefit of

the contract diverted by Mr Nurcombe. In dismissing the action, the English Court of

Appeal, per Lawton, LJ, stated the guiding principle as follows:

H[T]he court is entitled to look at the conduct of a plaintiff in a minority

shareholder's action in order to satisfy itself that he is a proper person

to bring the action on behalf of the company and that the company itself

will benefit. A particular plaintiff may not be a proper person because

his conduct is tainted in some way which under the rules of equity may

bar relief. He may not have corne with clean hands or he may have been

guilty of delay."32

29 (1981) 33 BCLR 45. 30 Section 303(2)( c ) of CAMA. 31 [198511 WLR 370. [1985J 1 All E.R. 65. 32 [1985]1 All E.R. 65 at p. 70.

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88 UNIVERSITY OF BOTSWANA LAW JOURNAL DECEMBER 2007

Applying this principle to the facts of the case, his Lordship held inter alia:

"[T]he plaintiff took her chance of persuading Rees, J [in matrimonial

proceedings] that she should benefit from the ill-gotten gains which the

first defendant had made. She succeeded and by the time this action

started she had received two-thirds of the fruits of her victory. When

she received these fruits, she knew how the first defendant had got them

and at whose expense: CHN's. In this action she is in effect saying:

'ALthough I have shared with the first defendant his ill-gotten gains,

I want the court to order that he should pay over to CHN his share of

them plus my share so that I can have a chance of getting some more

because of my status as a shareholder'. In my judgment the court should

not countenance such conduct."))

4.4 The Action Must be in the Interest of the Company

The application for leave must bear sufficient facts showing that the intended action

is in the interest of the company.34 This is a deduction which the court would make

from facts set out in the affidavit and the statement of claim. A compliance with the

above three requirements would almost invariably lead to the conclusion that the

action sought to be brought is in the company's interest. Company's interest in this

regard is synonymous with the interest of the shareholders as a whole. Thus, the action

must benefit aU the shareholders and not just the applicant or a section of them. Once

these requirements are met, the court will grant leave to the applicant to commence a

substantive action in the name of the company.

5. THE DRAFT COMPANIES' BILL PROVISIONS ON DERIVATIVE ACTION

The provisions under consideration are a novel attempt at codifying the concept of

derivative action as laid down by case law. The relevant provisions are contained in

sections 97-100 of the Bill. The draftsman apparently started from a wrong premise by

COdifying the exception without the rule. The derivative action, as pointed out earlier,

33 Ibid. (Emphasis added). See also Towers v African Tug Co. [1904]1 Ch 558 al 567 per Williams, LJ. 34 See section 303(2)(d) of CAMA.

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COMMENTS AND NOTES 89

is one of the exceptions recognised by law to the proper plaintiff principle established

in the case of Foss v Harbottle.35 Section 97 of the Bill would have stood on a more

solid ground if the basic rule in Foss v Harbottle had been statutority enacted as has

been done in other countries. for example in section 299 of the Nigerian CAMA.

Section 97(1) of the Lesotho Bill states as follows:

"Subject to subsection (2), a shareholder or a director of a company

may apply to the court for leave to bring proceedings in the name and

on behalf of the company or any related company, or intervene in

proceedings to which the company or any related company is a party,

for the purpose of continuing, defending or discontinuing the proceeding

on behalf of the company or related company."36

Unfortunately, this provision doesn't really say much. For example, it doesn't state

the grounds on which an application can be brought. A shareholder cannot without

good cause suddenly assume for himself the power of initiating court proceedings on

behalf of the company. Some of the decisions discussed above show that such rights

are given to shareholders where fraud is being committed on the minority and the

wrongdoers who are in control would not take action to seek redress. These factors

ought to be reflected in this provision to add flesh to it.

The inclusion of "director" among those that could maintain derivative action

is a clear misconception of the idea of derivative action. It is purely a judicial device

to enable the minority shareholders counter the tyranny of the majority. This sort of

action is not available to a director in his capacity as such, as the power to initiate

proceedings in the company's name belongs to the board of directors which every

director is a member. If a director feels that the company should take a particular

action, he should convince the board to do so, and where he is unable. he should

commence action in his capacity as a shareholder (if he is one) and not as a director.

The extension of this right of action to directors should be expunged.

Section 97(2) states as follows:

"Without limitin.g subsection 1, in determining whether to grant leave

under that subsection, the court shall have regard to-

35 (1843) 2 Hare461. 36 This provision and others after it would have attained greater brevity if the word 'company' is defined in one sentence

as including related company for the purposes of derivative action instead of continuous repetition of the same.

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90 UNIVERSITY OF BOTSWANA LAW JOURNAL DECEMBER 2007

a) the likelihood of the proceedings succeeding;

b) the cost of the proceedings in relation to the relief likely to

be obtained;

c) any action already taken by the company to obtain relief;

d) the interest of the company or related company in he

proceedings being commenced, continued

or discontinued."37

The problems start with the opening phrase in this provision; "without

limiting subsection 1," which does not make much sense. Not just that it is too

pedestal in its wording, it is also contradictory in that it lays down conditions which

the court must adhere to while considering an application for leave. In other words,

granting of leave sought under subsection 1 is not automatic, as such, conditions set

out in subsection 2(a)-(d) are limiting factors to the application of subsection I. The

use of the word "shall" in that provision suggests that these conditions are not merely

directory but mandatory. Subsection 2 can certainly stand without the impugned

phrase. Interestingly, the opening phrase in subsection I makes it subject to subsection

2, thus making further allusion to subsection 1 in subsection 2 is superfluous.

The requirement of paragraph (a) is too strong to apply at this stage of the

proceedings. It will require the taking of evidence by the court at that preliminary stage

when both parties are not yet before the court.38 Doing so will amount to prejudging

the matter as the court would have gone into the arena of dispute before granting

application to commence the suit. What the applicant should show at this stage is

prima facie case39 not likelihood of success.

Paragraph (b) is also flawed in that it requires the court to consider the relief

"likely to be obtained" instead of claimed. In other words, the court is at this point being

asked to determine the extent of relief it will most probably award to the applicant in the

substantive suit. This cannot be right in law. Remedies are always in issue (save when

admitted) and are proved by hard facts and evidence. Such matters are determined at

the end of full trial. Why too should the cost of the proceedings be a vitiating factor

when a shareholder is seeking redress for the wrong done to the company, the ultimate

end of which will be beneficial to the entire body of shareholders? The authorities

37 Emphasis added. 38 See Cowbell AG v ICS Holding Ltd 200 I (3) SA 941 (SeA) Beecllam SOUlh Africa (Pry) Ltd v Uniliver pic 1995

(2) SA 903 al 910 where the court held that "likelihood" refers to a "reasonable probability" implying a need for proof on the balance of probability.

39 As diSCussed above.

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COMMENTS AND NOTES 91

have shown that the courts have power to mitigate the burden of heavy expenses

on the shareholder by ordering the company to pay interim cost to the shareholder

whether or not the action succeeds at the end of the proceedings.40 This is an issue that

the draftsman ought to have addressed his mind to.

Paragraph (c) also misses the point. If the company had taken steps to obtain

relief, there would not be any need for derivative action. The shareholder's complaint

is that the directors who are the wrongdoers have refused to take action to redress the

wrong done to the company. The application is made ex parte and the court grants or

refuses to grant leave based on facts placed before it by the applicant. The directors

might not have had the opportunity to be heard at the time the court is considering the

application.

The only relevant consideration here is that contained in paragraph (d). The

court certainly must be satisfied that the action is in the interest of the company before

it grants leave to the applicant. It is submitted that paragraphs (a) - (c) of subsection 2

will better achieve their purposes if drafted in such manner as to enable the courts to

deal fairly with preliminary matters before the actual legal battle is commenced.

Subsection 3 provides what may be referred to as alternative, if not additional,

grounds for granting application for leave in the following terms:

"Leave to bring proceedings or intervene in proceedings may be granted

under subsection 1 only if the court finds that either-

a) the company or related company does not intend to bring,

diligently continue, defend or discontinue the proceedings;

or

b) it is in the interest of the company or related company that the

conduct of the proceedings should not be left to the directors

or to the determination of the shareholders as a whole."

One is at pains to find the essence of the entire subsection 3. Paragraph (b), for

instance, repeats substantially the provisions of paragraph (d) of subsection 2. The

requirements of paragraph (a) could have been of relevance if there is provision for

pre-action notice which is one of the basic requirements for derivative action as earlier

shown in the Nigerian context. Perhaps, the draftsman considers subsection 4 which

provides for the service of the notice of the application for leave on the company as

40 See Wallersteiller v Moir No.2 [1975] QB 375.

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92 UNIVERSITY OF BOTSWANA LAW JOURNAL DECEMBER 2007

a suitable alternative. But this is not always satisfactory as the application for leave

to commence action is usually made by motion ex parte which is what the rules of

practice require at that stage of the proceedings.41 The company is not an adverse

party to the proceedings. The time the company should decide whether to take action

is not after application is made to the court by the shareholder but before such an

application, hence the need for a pre-action notice.

Subsection 5 which provides that a shareholder42 shall not be entitled to bring

or intervene in any proceedings in the name or on behalf of a company or related

company except as provided in that section, is certainly of no essence as the entire

provisions of subsections 1-4 of section 97 have substantially failed to set out the

grounds under which derivative action could be pursued by a shareholder. The usual

grounds for bringing derivative action, as earlier discussed, are fraud and the failure

of the wrongdoers who are in control to seek redress on the company's behalf. These

requirements should have been speJt out in subsection 5.43

Section 98 deals with the power of the court to order that all reasonable cost

incurred by the shareholder after the granting of leave shall be borne by the company.

That provision obviously could have been subsumed in section 99 which deals with

the powers of the court. Interestingly, section 98 commences with the phrase, "where

leave is granted under section 97, the court shall ... " indicating that the orders the court

could make under this provision are also post leave orders.

The only provision in the Bill which falls in line with the requirements of a

derivative action is that contained in section 100 which requires approval of the court

before any proceedings commenced with the leave of court can be compromised. This

will ensure that the court retains control over the action and monitors any resolution

passed subsequently by the company which may have any effect on proceedings

already before the court. Suffices to re-emphasise that the inclusion of directors in

this section is fundamentally wrong and should be deleted as this sort of action is not

available to directors in their capacity as such.

41 See Rule 8(4) of the High Court Rules of Lesotho. 1980. 42 Note that direclor is not included here. Is it an oversight or a change of mind by the droftsman? 43 See sections 300(d) and 303(2)(a) of CAMA where similar requirements are provided.

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COMMENTS AND NOTES 93

6. CONCLUSION

Derivative action is conceived as a panacea to the rigours inherent in the majority rule

embodied in the case of Foss v Harbottle.44 The dictatorship of the majority which

is apparent in a collective decision making very often disregards the interest of the

minority. Granting a minority member an opportunity to challenge the decision of the

majority in certain respects, ensures that all members are contented with the collective

purpose of their membership. Derivative action provides such opportunity for the

minority shareholder in the company context to enforce rights due to the company

where the majority shareholders who are in control have failed or neglected to enforce

such rights.

As Lesotho moves towards codifying this well established judicial concept,

there is need for proper consultation and understanding of the concept before the Bill

is passed into law. What is presently contained in the Bill is in many respects an

aberration of what the concept stands for. This may be attributed to carelessness or

lack of respect for long established and tested judicial authorities on this concept. The

draftsman is entitled to chart a new course from the existing trend, but this must not

be done in such a manner as may defeat the essence of the entire reform by making

enforceability impossible.

44 Supra.

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94 UNIVERSITY OF BOTSWANA LAW JOURNAL DECEMBER 2007

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