Derivative Litigation: Recent High Court Decision Indicates Continued Significance Of The Common Law Derivative Action

• Published date: 03 July 2020
• Subject Matter: Finance and Banking, Corporate/Commercial Law, Commodities/Derivatives/Stock Exchanges, Corporate and Company Law, Directors and Officers, Shareholders
• Law Firm: Mayer Brown
• Author: Mr James Whitaker and Craig Holburd

As COVID-19 continues to have far reaching implications for businesses - and their directors - in the UK, we consider an area of company law of which directors should be ever-mindful when navigating the challenging decisions ahead; namely derivative actions brought by shareholders to enforce the rights of the company.

While the statutory derivative action, enshrined in the Companies Act 2006, is more prevalent, its narrower common law counterpart still has teeth.

In a recent decision the High Court - for the first time - granted conditional permission for claimants to pursue a common law derivative action, notwithstanding their present lack of standing to do so. We consider the potential implications of this decision against the backdrop of an environment in which multiple stakeholders - not just direct shareholders - will be looking to ensure the interests of companies are sufficiently protected.

What are derivative actions and what purpose do they serve?

When a company is injured as a result of wrongful conduct, any cause of action vests in the company itself; the company is a separate legal person distinct from its shareholders, and is the proper claimant in proceedings. The company, acting through its directors, may decide not to pursue a claim, perhaps because the claim arises from a breach of duty, owed to the company, by those same directors. Derivative actions are a means by which the company's shareholders can seek redress against the company's directors and officers (or third parties implicated in any breach of duty) for wrongs committed against the company. The claim is "derivative" because, again, the cause of action lies with the company; shareholders are able to bring the claim in their own name on behalf of the company. Such claims can be brought either under the statutory mechanism or under the common law; both require permission to be obtained from the court before being allowed to proceed¹.

Statutory derivative claims

Most derivative actions are brought under Part 11 of the Companies Act 2006, which has largely - but not entirely - replaced the common law jurisdiction for such actions.

These claims, commonly brought by shareholders against the company's directors on the basis of alleged breaches of the directors' duties, will be limited to causes of action arising from actual or proposed acts or omissions involving any negligence, default, breach of duty or breach of trust by a current, former or shadow director of the company². The right to bring a derivative action on behalf of a company is confined to the members of that company³.

Common Law derivative claims

Prior to the...