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Court Rules on Derivative Actions of Minority Shareholders - International Law Office

International Law Office

Litigation - Singapore

Court Rules on Derivative Actions of Minority Shareholders

December 14 2004

Pang Yock Hock v PKS Contracts Services is the first reported judgment by the Singapore Court of Appeal concerning the scope of the statutory derivative action found in Section 216A of the Singapore Companies Act (Cap 50, 1994 Rev Ed).

Where a wrong has been committed against a company, the general rule (set down in Foss v Harbottle) is that only the company may bring an action in respect of that wrong. Members of the company cannot bring an action. However, the statutory derivative action allows a member of the company (in most cases a minority shareholder without control of the company) to apply to court to bring an action in the name and on behalf of the company, or to intervene in an action to which the company is a party for the purpose of prosecuting, defending or discontinuing the action on behalf of the company.

In PKS Contracts Services there was a dispute between two factions of shareholders each holding 50% of the shares in the company. On the board, the first faction was represented by two directors, whereas the second was represented by three. Dissatisfied with the exercise of powers by the directors in the second faction, the first faction took out an application under Section 216A for leave to commence proceedings in the name and on behalf of the company.

The application was dismissed at first instance and the decision was upheld by the Singapore Court of Appeal, which took the opportunity to examine the law on Section 216A.

The Court of Appeal affirmed the approach taken by previous High Court decisions regarding the requirement that the applicant for relief under Section 216A be acting in good faith and that it appears to be prima facie in the interests of the company that the action be brought, prosecuted, defended or discontinued.

In relation to good faith, the Court of Appeal opined that the best way to demonstrate "good faith is to show a legitimate claim which the directors are unreasonably reluctant to pursue with the appropriate vigour or at all", and that " hostility between the factions involved is bound to be present in most of such applications…is… generally insufficient evidence of lack of good faith on the part of the applicant". However, if the aggrieved party is "so motivated by vendetta, perceived or real, that his judgment will be clouded by purely personal considerations, that may be sufficient for the court to find a lack of good faith on his part".

In relation to prima facie interests of the company, the Court of Appeal opined that the court must "weigh all the circumstances and decide whether the claim ought to be pursued". The Court of Appeal clarified that the language of "to gain substantially in money or in money's worth" in Agus Irawan relates more to the issue of "whether it is in the interests of the company to pursue the claim rather than whether the claim is meritorious or not". The example given was that a S$100 claim may be meritorious but not commercially expedient for the purposes of commencing an action for recovery.

The Court of Appeal also held that the court should consider "whether there is another adequate remedy available, such as the winding-up of the company" following the decision of the English Court of Appeal in Barrett v Duckett [1995] 1 BCLC 243. This was a new factor considered by the court, as until the decision in the court below, such a factor has never featured in any of the other cases on Section 216A previously decided by the High Court.

In the case at hand the Court of Appeal agreed that, while there was no lack of good faith on the part of the applicant faction, no legitimate or arguable case had been made out against the majority. The Court of Appeal noted the finding at first instance that the two factions were unable to co-exist and deadlocked at the shareholder level, resulting in the company being unable to pay its debts when they fell due and failing to comply with its obligations to file its statutory accounts. Accordingly, they affirmed the lower court's decision that winding-up was a more suitable alternative remedy than a statutory derivate action.

PKS Contracts introduces a new barrier - of which minority shareholders should be aware - that could potentially defeat the successful invocation of a Section 216 action, even if the statutory conditions to obtain that remedy are satisfied. This factor as to the availability of an alternative remedy should lead minority shareholders to consider carefully other routes (eg, winding-up, minority oppression) before deciding to embark on a statutory derivative action.

For further information on this topic please contact Sophia Leong Khum Way at WongPartnership by telephone (+65 6416 8000) or by fax (+65 6532 5722) or by email (sophia.leong@wongpartnership.com.sg).

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