Introduction

Foss v Harbottle (1843) 2 Hare 461, 67 ER 189 is a leading English precedent

in corporate law. In any action in which a wrong is alleged to have been done
to a company, the proper claimant is the company itself. This is known as
"the proper plaintiff rule", and the several important exceptions that have
been developed are often described as "exceptions to the rule in Foss v
Harbottle".

Amongst these is the "derivative action", which allows a minority shareholder

to bring a claim on behalf of the company. This applies in situations of
"wrongdoer control" and is, in reality, the only true exception to the rule. The
rule in Foss v Harbottle is best seen as the starting point for minority
shareholder remedies.

Facts of the case

Facts of the case The case of Foss v Harbottle is about the Victoria Park
Company whose business was to enclose and plant ornamental parks, erect
houses, sell, let or otherwise dispose thereof. 1 In 1837, this company was
incorporated in an Act of Parliament to evolve decorative parks and
gardens.2 Two minority shareholders of the company, Richard Foss and
Edward Starkie Turton, brought a derivative suit against the five directors
and promoters of the company alleging that they had misapplied numerous
company assets and had unsuitably mortgaged its property. 3 The claimants
sought the guilty parties to be found accountable to the company and they
requested the appointment of a receiver.4

Issues of the Case

1
Foss v Harbottle (1843) 67 ER 189
2
Ibid
3
Ibid (n 15)
4
Ibid

1
 The central issues at hand were twofold in Foss v Harbottle:

 Whether the company members had the authority to bring a lawsuit on

behalf of the company?
 Whether the individuals responsible for the wrongdoing could be held
accountable for their actions?
Holding

The court dismissed the claim and held that only the company has the right
to sue when the company is suffered by its directors. 5 At that point, the court
founded a fundamental company law rule which is divided into two limbs. 6
The first is the ‘proper plaintiff rule’ which indicates that a wrongdoing
affected the company can be sued only by the company itself and in its
separate legal entity.7 The second is known as the ‘internal management
rule’ which notifies that when the alleged wrongdoing is approved or
established by the members’ majority in a general meeting, then the court
cannot be involved.8 This principal rule has received long discussions. The
‘proper plaintiff rule’ is closely linked to the separate legal personality
doctrine which indicates that the company is a legal personality separate
and distinct from its members.9
However, these strict principles seemed harsh and unjust for minority
shareholders as they were prevented from seeking justice despite having
substantive rights. To address this, the court in Foss vs Harbottle established
four exceptions to the general principles where litigation would be allowed.

5
Lynden Griggs, ‘A Statutory Derivative Action: Lessons That May Be Learnt from its
Past’ (2002) 6 UWSL Rev 63, 71
6
Ibid
7
Ibid
8
Ibid
9
Ibid (n 14) 179

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Exceptions to the rule

As it has been explained above, the minority shareholder pursuing to correct

and compensate a wrongdoing to the company was confronted with the rule
that the company is the ‘proper plaintiff’, or alternatively, that the matter
was one of internal management that should be resolved in a general
meeting by the members. The pure application of the rule in Foss v Harbottle
permits majority shareholders and directors to absolutely disregard the
benefits or rights of minority shareholders. To resolve ‘this there are certain
exceptions to the rule in Foss v. Harbottle, where litigation will be allowed.
The following exceptions protect basic minority rights, which are necessary
to protect regardless of the majority's vote.

a) Ultra vires and illegality

This exception supports that a minority shareholder may sue a company

when the alleged act is illegal and ultra vires the company’s constitution. 10
The Court of Appeal in Prudential Assurance Co Ltd v Newman Industries Ltd
(No 2) (1982) clarified that where the alleged wrongdoing is ultra vires the
company, the rule in Foss v Harbottle does not apply as the majority of
members cannot authorize the transaction.11 The above point has been
exemplified in Taylor v National Union of Mineworkers [1986] a claim for
unlawful strike was supported 12 and in Smith v Croft (No.2) [1988],a claim for
a transaction which violated the capital maintenance clauses of the
Companies Acts.13 This exception illustrates that a minority member may, by
seeking his right, bring an action against a threatened illegal action. 14

b) Actions requiring a special majority

If some special voting procedure would be necessary under the company's

constitution or under the Companies Act, it would defeat both if that could be
10
Majority Rule Shareholders’ (Lawteacher.net, March 2018) accessed on 17thMarch 2024
11
Prudential Assurance Co Ltd v Newman Industries Ltd (No 2) [1982] Ch 204
12
Taylor v National Union of Mineworkers [1986] IRLR 439, [1986] ICR 736
13
Smith v Croft [1988] Ch 114
14
Ibid (n 61)

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sidestepped by ordinary resolutions of a simple majority, and no redress for
aggrieved minorities to be allowed.15

c) Invasion of individual rights

This exception is about the personal rights which vested in each individual
shareholder by articles and statute and for which the shareholder can
individually apply for infringement in the court 16. Under the third exception to
the rule in Foss v Harbottle, an individual shareholder can bring an action in
the court only if he overcomes two hurdles. 17 The first hurdle involves the
difficulties surrounding the application of well-known ‘outsider’ rights
allegedly granted to a company member by the association’s articles.
Particularly difficult here is to distinguish insider rights, that are applicable
based on the statutory contract, and outsider rights that are usually
regarded as not applicable.18 The second hurdle refers to the difficulty in
foreseeing when the court will find that the infringement of an article in the
company’s constitution is a simple ‘internal irregularity’ of internal
management and so a wrongdoing to the company and not a breach to the
company’s constitution for which an individual of a company can bring an
action to the court.

d) "Frauds on the minority"

This exception applies in a scenario where a ‘fraud on the minority’ has been
perpetrated by the majority who control the company and ‘will not permit an
action to be brought in the name of the company’. 19 Case law and journalists
refer to this exception as the ‘fraud on the minority’. 20 What makes this

15
Edwards v Hallowell [1950] 2 All ER 1064

16
S. Chumir, ‘Challenging Directors and the Rule in Foss v Harbottle’ (1965) 4 Alberta LR 98
17
Ibid (n 1) 185
18
Pender v Lushington (1877) 6 Ch D 70, per Jessel MR

19
Burland v Earle (Consolidated) (1900-3) All E.R. 1452
20
Ibid (n 1) 186

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exception exceptionally important is that it has introduced the concept of
derivative claims in common law.21 Derivative claims are defined as the
‘claims brought against a company by a shareholder on behalf of the
company in relation to a breach of duty by a director . 22 For the application of
this exception, there are two elements that should be satisfied: ‘the
wrongdoing had to amount to “fraud” and the wrongdoers must have been in
control of the company’ .23This exception has been illustrated in the case of
Gambetta v WCP Limited.24

Conclusion

From the above discussion, it can be deduced that the effectiveness of the
true exceptions to the rule in Foss v Harbottle against the wrongdoers was
clearly depended upon by the shareholders so as to detect fraudulent
conduct on the part of the controllers. It is evident that in the past, the
shareholders performed a task of policing the wrongdoers mainly in large
public companies given that as a body they are given limited access to
material information. Hence it was difficult to understand why minority
shareholders would want to bring derivative actions, but due to the number
of things mentioned above that were done mostly by the minorities towards
them, then by all means they deserve to bring derivative claims so as to stop
them

21
Gareth Baker and Samantha Hacking, ‘UK: Statutory Derivative Claim Regime: Ten Years
On’ (2017) Mondaq Business Briefing 1
22
Ibid (n 88)
23
Ibid (n 14) 180
24
(1995) 182 CLR 432 (Aus)