FOSS V.

HARBOTLE

I. Introduction

Supremacy of the majority is the fundamental principle of company law. Generally, majority
members are entitled to exercise powers of the company and control its affairs. A group of
persons controlling 3/4th of the votes would have a complete control of the company, and a
little more than half the votes would give considerable influence allowing control over
appointments to the Board. The majority of the members are in an advantageous position to
run the company according to the command full, the minority of shareholders are often
oppressed. The company law provides for adequate protection for the minority shareholders
when their rights are trampled by the majority.

The principle of majority rule was recognized in Foss v. Harbottle. It is also known as
“proper plaintiff principle”, which states that, in order to redress a wrong done to a company
or to the property of the company or to enforce rights of the company, the proper claimant is
the company itself, and the court will not ordinarily entertain an action brought on behalf of
the company by a shareholder.

II. Rule in Foss v. Harbottle

The claimants, Foss and Turton, were shareholders in a company ‘The Victoria Park
Company’ which was formed to buy land for use as a pleasure park. Two minority
shareholders in the company alleged that its directors were guilty of buying their own land
for the company’s use and paying themselves a price greater than its value. This act of
directors resulted in a loss of the company. The minority shareholders decided to take action
against the directors, but the majority shareholders in a meeting resolved not to take any
action against the directors alleging that they were not responsible for the loss which had
occurred.

The court dismissed the suit on the ground that the acts of the directors were capable of
confirmation by the majority members and held that the proper plaintiff for wrongs done to
the company is the company itself and not the minority shareholders and the company can act
only through majority shareholders. The rationale in that line of reasoning is that a company
is a separate legal entity from the members who compose it and as such, if any right of the
company is violated, it is the company which can bring an action through the majority.
It was also held that, it is elementary principle of law relating to joint stock companies that
the court will not interfere with the internal management of the company, acting within their
powers and jurisdiction to do so. Again, it is clear that in order to redress a wrong done to the
company or to recover monies or damages due to the company the action should prima facie
be brought by the company itself”.

III. Basis of the Rule

A. The right of the Majority Rule

The court has said in some of the cases that an action by a single shareholder cannot be
entertained because the feeling of the majority of the members has not been tested and that
they may be prepared to waive their right to sue.

B. The Company is a Legal Person

The court has also said from time to time that since a company is a person at law, the action
is vested in it and cannot be brought by a single member.

C. The prevention of multiplicity of Actions

This situation could occur if each individual member was allowed to commence an action in
respect of a wrong done to the company.

D. The court’s order may be made ineffective

The court’s order could be overruled by an ordinary resolution of members in a subsequent

MacDougall vs. Gardiner (1875)

The articles empowered the chairman with the consent of the members in a meeting to
adjourn a meeting and also provided for taking a poll if demanded by the shareholders. The
adjournment was moved and declared by the chairman. A shareholder brought an action for a
declaration that the chairman’s conduct was illegal. It was held that the action could not be
brought by the shareholder. If the chairman was wrong, only the company could sue. Lord
Melish said that if the thing complained of is a thing which in substance the majority of the
company are entitled to do, there can be no use in having litigation about it, the ultimate end
of which is only that a meeting has to be called and then ultimately the majority gets its
wishes.

IV. Advantages of the Rule

Some of the advantages of the rule of Foss v. Harbottle are as follows:

1) Recognition of separate legal personality of a company. If a company has suffered

2) It preserves the right of the majority to decide how the affairs of the company shall be
conducted. It is the wish of the majority to prevail.

3) Multiplicity of futile suits can be avoided, that is, if every member were permitted to
sue everyone who has injured the company through a breach of duty, there would be
enormous waste of time and money.

4) Litigation at the suit of a minority is futile if majority do not wish it.

V. Exceptions to the Rule (Protection of the Minority)

It is clear from Foss v. Harbottle rule that it is the majority rule that prevails in the company
management. Such powers may be misused to exploit the minority shareholders and to serve
personal ends. This may be clear in case of private companies where few individuals own
majority of shares. Palmer rightly pointed out that, “a proper balance of rights of majority and
minority shareholders is essential for the smooth functioning of the company”. To curtail the
power of the majority, the following exceptions have been admitted as follows:-

A. Acts which are ultra vires or illegal

Foss vs. Harbottle will apply only when the act done by the majority is one which the
company is authorized to do by its memorandum. No simple majority of members can
confirm or ratify an illegal act, not even if all the shareholders are willing to do so. In case of
ultra vires acts, even a single shareholder can restrain the company from committing those
acts by filing a suit of injunction. Majority rule will not prevail where the act in question is
illegal.

B. Acts supported by insufficient majority

Edwards vs. Halliwell (1950)

A trade union had rules which were the equivalent of the articles of association, under which
any increase in members’ contributions had to be agreed by a 2/3 rd majority in a ballot of
members. A meeting decided by a simple majority, to increase the subscriptions without
holding a ballot. The claimants as a majority of members applied for a declaration from the
court that the resolution was invalid.

It was held that the rule in Foss did not prevent a minority of a company from suing because
the matter about which they were suing was one which could only be done or validly
sanctioned by a greater than simple majority.

C. Where the act of majority constitutes a fraud on the minority

A resolution would constitute a fraud on minority if it is not bona fide for the benefit of the
company as a whole. Similarly, an action of the majority which discriminates between
majority shareholders and minority could constitute a fraud of majority. A special resolution
would be liable to be impeached if the effect of it were to discriminate between the majority
shareholders and minority shareholders, so as to give the former advantage of which the latter
were deprived.

The rule in Foss would create grave injustice if the majority were allowed to commit wrongs
against the company and benefit from those wrongs at the expense of the minority, simply
because no claim could be brought in respect of the wrong.

Cook v. Deek (1916)

The directors of a Railway Construction company obtained a contract in their own names to
construct a railway line. The contract was obtained under circumstances which amounted to
breach of trust by the directors who then used their voting powers to pass a resolution of the
company declaring that the company had no interest in the contract.
It was held that the benefit of the contract belongs in equity to the company and that the
directors would benefit themselves at the expense of the minority. It is tantamount to majority
oppressing the minority. In case of breach of duty of this sort, the rule in Foss did not bar the
claimants’ claim.

Brown vs. British Abrasive Wheel Co. (1919)

A company required further capital. The majority who represented 98 percent of the
shareholders, were willing to provide this capital but only if they could buy up the 2 percent
minority. The minority would not agree to sell and so the majority shareholders proposed to
alter the articles to provide for compulsory acquisition under which 9/10 th of shareholders
could buy out any shareholders.

Lord Asbury held that the alteration of the articles would be restrained because the alteration
was not for the benefit of the company. The rule in Foss did not bar the claimant’s claim.

D. Where it is alleged that the personal membership rights of the plaintiff shareholder has
been infringed

Such individual rights include the right to attend meetings the right to receive dividends the
right to insist in strict observance of the legal rules; statutory provisions in the memorandum
and articles. If such a right is in question, a single shareholder can on principle, defy a
majority consisting of all other shareholders.

Thus, where the chairman of a meeting at the time of taking the poll ruled out certain votes
which should have been included, a suit by a shareholder was held to be validly filed. Where
the candidature of a shareholder for directorship is rejected by the chairman, it is an
individual wrong in respect of which the suit is maintainable.

E. Where there is breach of duty

A minority shareholder can bring a suit against the company where there is a breach of duty
by the directors and majority shareholders to the detriment of the company.

Daniels vs. Daniels (1978)

A company on an instruction of the two directors (husband and wife), having majority
shareholding sold the company’s land to one of them, (the wife) at a gross under value. The
minority shareholders brought an action against the directors and the company. It was held
that minority shareholders had a valid cause of action.

F. Oppression and Mismanagement

Where there is oppression of minority or mismanagement of the affairs of the company, Foss
v. Harbottle does not apply. Oppression refers to an act performed in a burdensome, harsh
and wrongful manner. A shareholder can bring an action against the management of the
company on the grounds of oppression and mismanagement.

VI. Conclusion

The rule in Foss v. Harbottle provides that individual shareholders have no cause of action in
law for any wrongs done to the corporation and that if an action is to be brought in respect of
such losses, it must be brought either by the corporation itself (through management) or by
way of a derivative action. The rule in Foss v. Harbottle is the consequence of the fact that a
corporation is a separate legal entity. Other consequences are limited liability and limited
rights. The company is liable for its contracts and torts; the shareholder has no such liability.
The company acquires causes of action for breaches of contract and for torts which damage
the company.

Further no cause of action vests in the shareholder. When the shareholder acquires a share, he
accepts the fact that the value of his investment follows the fortunes of the company and that
he can only exercise his influence over the fortunes of the company by the exercise of his
voting rights in general meeting. The law confers on him the right to ensure that the company
observes the limitations of its memorandum of association and the right to ensure that other
shareholders observe the rule, imposed on them by the articles of association. If it is right that
the law has conferred or should in certain restricted circumstances confer further rights on a
shareholder the scope and consequences of such further rights require careful consideration.