Out With The Hould: Landmark Decision Paves The Way For Shareholder Misrepresentation Claims Against Companies In Liquidation

• Published date: 11 July 2023
• Subject Matter: Corporate/Commercial Law, Corporate and Company Law, Shareholders
• Law Firm: Campbells
• Author: Mr Guy Cowan and Harry Shaw

In a significant decision for the Cayman Islands in In The Matter of HQP Corporation Ltd (in Official Liquidation) (FSD 190 of 2021 (DDJ)), the Grand Court has clarified that there is no bar to shareholders bringing claims for misrepresentation against a company in liquidation and, further, that such claims (if admitted) will rank as unsecured debts of the company. In reaching this decision, the Grand Court was required to analyse and consider the century-long debate regarding the "Rule in Houldsworth", concluding that the rule, which arises from a decision of the House of Lords in 1880, forms no part of the fabric of modern Cayman company law.

The Rule in Houldsworth

To understand the significance of the decision in Re HQP Corporation, it is first necessary to understand what the "Rule in Houldsworth" (the "Rule") actually is. That, in itself, is no easy task; the Rule, which takes its name from the House of Lords' decision in Houldsworth v City of Glasgow Bank (1880) 5 App Cas 317, has been described in the English High Court as being "of legendary impenetrability"¹ and Commonwealth courts have struggled for over a century with how to define it. In its most basic form, however, the Rule provides that a shareholder of a company cannot claim damages for misrepresentation once the company has entered liquidation, having by then lost the right of rescission.

The luckless Mr Houldsworth was a shareholder in the City of Glasgow Bank (the "Bank") who (it was accepted) had been fraudulently induced by the Bank's directors to buy shares. The Bank, an unlimited joint stock company, soon went into insolvency and Mr Houldsworth was faced with very significant calls on his shares, substantially in excess of the amounts he invested. Mr Houldsworth was too late to rescind the subscription contract, given the Bank had entered insolvency, but sought to claim damages instead of rescission.

The House of Lords held that an action for damages based on misrepresentation could not be maintained against the insolvent company. The reasons given by the different Law Lords for such prohibition were varied, but included, inter alia, that:

1. Mr Houldsworth had not bought a chattel or property, but in subscribing for shares in the Bank he had merged himself into a society and had contracted with his fellow members (often described by the Law Lords as "partners"), such that if there were a deficiency in the assets of the Bank, that deficiency would be made good ratably by the members;
2. a claim by one member against 'the company' for a fraud committed by the company is a claim against all members except himself, and would run directly against the nature of the "partnership contract" struck with his fellow members and
3. a member cannot approbate and reprobate his subscription contract in this way, or adopt two inconsistent positions (one of shareholder, and the other of creditor of the whole body of shareholders including himself).

Houldsworth in context

The decision in Houldsworth needs to be understood in its proper context. It was determined at a time when shares in a company were not considered to be property and 17 years before the House of Lords' seminal decision in Salomon v Salomon [1897] AC 22, when the concept of a company having a separate legal personality was in its infancy and there remained strong influences from the law of partnership; indeed...