Scottish Court of Session Decisions

OUTER HOUSE, COURT OF SESSION [2010] CSOH 132
CA87/08	OPINION OF LORD HODGE in the cause EASTFORD LIMITED Pursuer; against (FIRST) THOMAS GRAHAM GILLESPIE and (SECOND) AIRDRIE NORTH LIMITED Defenders: _____________

Act: Sellar QC; Semple Fraser LLP

Alt: Martin QC, McIlvride: Anderson Fyfe LLP

30 September 2010

[1] This is the second occasion on which parties have addressed me at a debate on whether a purported resolution of Eastford Limited ("Eastford") was invalid because a conflict of interest precluded certain of the directors from voting on that resolution. In my initial opinion ([2009] CSOH 119) I refused the defenders' motion to dismiss the action on the pleadings as they then were. The defenders reclaimed my decision and, while the case was before the Inner House, the pursuers amended their pleadings to introduce averments on additional matters, some of which had been mentioned in the debate. When the case came for a hearing on the Summar Roll a question arose as to the content and significance of informal minutes of the meeting at which the purported resolution was voted on. The Extra Division, faced with the amended pleadings and this new issue, recalled my interlocutors of 20 August and 3 September 2009 and remitted the case to me to proceed as accords.

[2] The defenders initially proposed to argue that the pursuers' averments were irrelevant because the informal minute, to which they referred in their pleadings and which they produced in the action, did not disclose that the resolution had been passed. Since then, the parties have entered into a Joint Minute agreeing the primary facts in relation to the meeting and thus superseding the argument based on the written pleadings in relation to the minutes. Accordingly the parties have again debated the issue, which they discussed in the debate last year, but now against the backdrop of amended pleadings and the Joint Minute.

Background

[3] As I recorded in my earlier opinion, the Gillespie family has for many years operated a successful family business which initially included open cast coal mining and, more recently, property development. Unfortunately, in recent years certain relationships within the family have broken down. That breakdown has resulted in numerous court actions between family members. This action against Mr Thomas Graham Gillespie ("Mr Graham Gillespie") and Airdrie North Limited is at the instance of a family company, Eastford. In this action Eastford alleges that Mr Graham Gillespie has acted in breach of his fiduciary duty to the company by acquiring for his own benefit a commercial opportunity which belonged to the company.

[4] Mr James Stevenson Gillespie ("Mr Steven Gillespie"), Mr Gary Gillespie, Mr Graham Gillespie and Mr Alan Gillespie are brothers. Each is a director of Eastford and holds twenty five per cent of the share capital of the company. In the summer of 2008 Mr Steven Gillespie and Mr Gary Gillespie instructed Semple Fraser LLP to raise the action in name of Eastford. At a hearing before calling on 19 August 2008 the company obtained an interim interdict which among other things prohibited the defenders from transferring out of the ownership of GM Drumshangie Limited or burdening specified landholdings. The defenders challenged the authority of Mr Steven Gillespie and Mr Gary Gillespie to raise the action in the name of the company.

[5] Faced with this challenge, Mr Steven Gillespie by notice dated 6 October 2008 called a meeting of the board of directors of Eastford to ratify the raising of the action. The meeting was held on 9 October 2008; all four brothers attended the meeting in their capacity as directors. The directors did not elect a chairman of the meeting.

[6] Eastford did not prepare or keep minutes of the meeting as required by section 248 of the Companies Act 2006 ("the 2006 Act") and its Articles of Association (which incorporated Regulation 100 of Table A). Mr Steven Gillespie and Mr Gary Gillespie prepared minutes of the meeting, which were later typed by an employee of Eastercroft House Limited. Mr Graham Gillespie and Mr Alan Gillespie also prepared minutes of the meeting in manuscript. Such informal minutes (and any minutes prepared by a company under section 248 of the 2006 Act) would be evidence of what occurred at a meeting but would not be exclusive evidence of that matter: Buckley on the Companies Acts (14^th ed.) p.395. I do not need to consider the minutes or the pleadings relating to them as parties have agreed in their Joint Minute what occurred at the meeting in the terms which I set out in the following paragraph.

[7] Mr Graham Gillespie asked Mr Steven Gillespie and Mr Gary Gillespie who was going to meet the court expenses incurred by the company in the actions which had been raised in the name of the company. Mr Steven Gillespie stated that the meeting would not discuss that subject. Mr Steven Gillespie proposed that the ratification of the present action be approved. Mr Steven Gillespie and Mr Gary Gillespie each cast a vote in favour of that resolution. Mr Graham Gillespie and Mr Alan Gillespie each cast a vote against the resolution. Each set of minutes records that Mr Steven Gillespie and Mr Gary Gillespie contended that Mr Graham Gillespie's vote fell to be disregarded on grounds of conflict of interest. Mr Graham Gillespie and Mr Alan Gillespie objected that, on the same grounds, the votes of Mr Steven Gillespie and Mr Gary Gillespie should also be disregarded, and that the only valid vote which had been cast was that of Mr Alan Gillespie. That objection is also recorded in each set of minutes.

[8] That is the extent of the agreement of the parties on what had occurred at the meeting. I observe also that the minutes of the board meeting, to which the pursuers referred in their pleadings, recorded (i) that Mr Steven Gillespie stated that his solicitors had advised that Mr Graham Gillespie was not entitled to vote, (ii) that the resolution in relation to this action was carried by two votes to one but (iii) that Mr Graham Gillespie and Mr Alan Gillespie disagreed with that result. The minutes also stated:

"Thomas Graham Gillespie wanted it noted that Eastford had no funds to pursue these actions. ..... Thomas Graham Gillespie requested that it be noted that in his view the meeting was illegal."

The pursuers aver:

"The first defender was disqualified from voting at that meeting by reason of his conflict of interest in the subject matter of the resolution. Neither Steven Gillespie nor Gary Gillespie was so disqualified from voting, since in their case there was no realistic conflict of interest in terms of the pursuers' articles of association."

[9] In their defences the defenders aver that this action has been brought without proper corporate authority. In an opposed hearing on 24 October 2008 they successfully sought recall of an interim interdict on various grounds. Further, as Eastford had no funds, the defenders successfully sought caution for expenses under section 726 of the Companies Act 1985 on 9 January and again on 26 May 2009. In an unopposed motion on 2 July 2009 the defenders obtained the release of consigned funds to meet the taxed expenses of the hearing for the recall of the interim interdict.

[10] In each of the debates, which I have heard, the defenders challenged the relevancy of the averments in the action and sought its dismissal on the basis that the purported ratification at the board meeting was ineffective because of conflict of interest. The defenders did not contend that the company could not ratify the directors' actions. They advanced a narrower argument, namely that the ratification was ineffective because Mr Steven Gillespie and Mr Gary Gillespie should not have voted as they had placed themselves in a position where their personal interests were in conflict with their duty to Eastford.

Legal background

[11] It is well established at common law that, unless a company's constitution otherwise provides, a board of directors can, within a reasonable time, ratify the acts of a director or directors who, when they acted, had no authority to bind the company: Re Portuguese Consolidated Copper Mines Ltd [1890] LR 45 Ch D 16, Breckland Group Holdings Ltd v London & Suffolk Properties Ltd [1989] BCLC 100 and Municipal Mutual Insurance Ltd v Harrop [1998] 2 BCLC 540. See also Danish Mercantile Co Ltd v Beaumont
[1951] Ch 680.

[12] The statutory statement of the general duties of directors in Chapter 2 of Part 10 of the 2006 Act has not superseded that line of authority. Section 171 provides that a director of a company must act in accordance with the company's constitution. That might, taken by itself, suggest that an unauthorised act could not be ratified. But it is clear on examining the statutory statement of the general duties of directors that that statement does not prevent a company by a resolution of its board from ratifying the acts of a director which were unauthorised but were within the power of the board.

[13] One must look to the purpose of the statutory statement which is revealed in the 2006 Act. Subsections (3) and (4) of section 170 set out the relationship between the general duties which are stated in the Act and the pre-existing common law rules and equitable principles on which they are based. Subsection (3) provides:

"The general duties are based on certain common law rules and equitable principles as they apply in relation to directors and have effect in place of those rules and principles as regards the duties owed to a company by a director."

Thus the statutory statements replace such of the common law rules as have been subjected to statutory formulation. But sub-section (4) provides:

"The general duties shall be interpreted and applied in the same way as common law rules or equitable principles, and regard shall be had to the corresponding common law rules and equitable principles in interpreting and applying the general duties".

This subsection seeks to address the challenge which the Law Commissions and the Company Law Review had identified, namely of avoiding the danger that a statutory statement of general duties would make the law inflexible and incapable of development by judges to deal with changing commercial circumstances. Parliament has directed the courts not only to treat the general duties in the same way as the pre-existing rules and principles but also to have regard to the continued development of the non-statutory law in relation to the duties of other fiduciaries when interpreting and applying the statutory statements. The interpretation of the statements will therefore be able to evolve. The statutory statement of the general duties of directors is intended to make those duties more accessible to commercial people. I see nothing in the statutory provisions, including section 180(5) (which provides that, subject to specified exceptions, the general duties have effect notwithstanding any rule of law), which suggests that Parliament intended to alter the pre-existing rules on ratification by a board of a director's unauthorised acts.

[14] I am supported in my opinion by Lord Glennie in West Coast Capital (Lios) Ltd Petr [2008] CSOH 72, (at para 21) in which he expressed the view that section 171 of the 2006 Act did little more than set out the pre-existing law on the subject. I also derive some support from leading company law textbooks such as Gore-Browne on Companies (at para 15[8A]) and Palmer's Company Law, which (at para 8.2309) suggests that older cases remain relevant to the interpretation of the statutory duties "since the codified duties are generally formulated in a way that quite faithfully reflects the older case law". The statutory formulations do not, by a side wind, alter the law of agency or prevent ratification of the unauthorised acts of a director. As I have said, the defenders did not seek to argue otherwise.

Conflict of interest

[15] The only issue therefore is whether Mr Steven Gillespie and Mr Gary Gillespie were excluded from voting at the board meeting on 9 October 2008 because of a conflict of interest.

[16] Regulation 94 of Table A, which applies to Eastford, provides so far as material:

"Save as otherwise provided by the articles, a director shall not vote at a meeting of directors ...on any resolution concerning a matter in which he has, directly or indirectly, an interest or duty which is material and which conflicts or may conflict with the interests of the company ...".

Mr Steven Gillespie and Mr Gary Gillespie do not dispute that a conflict of interest would have precluded them from voting. They deny there was such a conflict.

[17] Section 175(1) of the 2006 Act codifies the conflict of interest rule as follows:

"A director of a company must avoid a situation in which he has, or can have, a direct or indirect interest that conflicts, or possibly may conflict, with the interests of the company."

Subsection (4) of section 175 provides:

"This duty is not infringed-

(a) if the situation cannot reasonably be regarded as likely to give rise to a conflict of interest; or

(b) if the matter has been authorised by the directors."

[18] Parties agreed that the relevant test was whether there was a real sensible possibility of conflict. The basic principle, as is well-known, is that which Lord Cranworth LC stated in Aberdeen Railway Co v Blaikie Brothers (1854) 1 Macq 461, when discussing the fiduciary duties of directors to their company, at p.471:

"And it is a rule of universal application, that no one, having such duties to discharge, shall be allowed to enter into engagements in which he has, or can have, a personal interest conflicting, or which possibly may conflict, with the interests of those whom he is bound to protect."

In Boardman v Phipps [1967] 2 AC 46, Lord Upjohn in a celebrated speech qualified that statement and said (at p.124B-C),

"The phrase 'possibly may conflict' requires consideration. In my view it means that the reasonable man looking at the relevant facts and circumstances of the particular case would think that there was a real sensible possibility of conflict; not that you could imagine some situation arising which might, in some conceivable possibility in events not contemplated as real sensible possibilities by any reasonable person, result in a conflict."

The Court of Appeal has applied that test more recently in Bhullar v Bhullar [2003] 2 BCLC 241. See, in particular, Jonathan Parker LJ at paragraphs [27] to [31] in which he emphasised the strictness of the obligation not to allow a conflict to arise between duty and interest. These authorities appear to me to be relevant to the interpretation of not only section 175(1) of the 2006 Act but also Regulation 94 of Table A.

[19] Mr Martin QC for the defenders submitted that there was such a conflict or possible conflict. Mr Steven Gillespie and Mr Gary Gillespie had instructed the raising of the action without the company's authority. Expense had already been incurred in the litigation. At the meeting they had refused to discuss who was to pay for the action. They did not grant or offer to grant Eastford an indemnity. They had incurred personal liability by raising the action without authority and risked being found liable to pay the defenders' expenses were the action to fail. If the action were not ratified, such liability might arise by the court making an award of expenses against them personally or against the solicitors who would seek relief from them. He accepted that if Mr Steven Gillespie and Mr Gary Gillespie had granted an indemnity to the company or otherwise protected it from incurring expense in this action, there would not have been a conflict of interest. His complaint was that they had not done so at the time of the meeting on 9 October 2008. By voting for the resolution they absolved themselves from the personal liability which they had already incurred; if their actions were ratified, they could choose not to pay an award of expenses or to find caution for expenses on behalf of the company and could allow the company to be wound up. Accordingly, he submitted that they had a material interest in having Eastford ratify the action which they had instructed without its authority in order to remove their personal liability in expenses. That interest compromised their ability to give disinterested consideration to the question whether it was in the best interests of Eastford that their actions should be ratified.

[20] Mr Sellar QC submitted that there was no real and sensible possibility of conflict. He referred me to the pursuers' averments. Eastford had no assets and was not trading. Mr Steven Gillespie and Mr Gary Gillespie had known when the action was raised in Eastford's name that they would be personally liable for the expenses of the defenders if the action failed. Any reasonable director in their position would have known of that liability because Eastford had no funds. Such liability to the defenders could arise either directly, from their status as domini litis, or indirectly, in order to avoid the company being wound up. If Eastford were to go into insolvent liquidation, any liquidator would instruct proceedings against them for breach of their duty as directors in authorising the company to incur material liabilities when it had no assets. They also risked disqualification as directors under section 6 of the Company Directors Disqualification Act 1986. Such disqualification would have made it impossible in practice for each of them to carry on his other business interests, as they conducted their businesses primarily through companies of which they were directors. Eastford, Mr Sellar submitted, had no conflicting interest as there was no real possibility of it ever being able to pay the expenses of the action or of it protecting the instructing directors from such liability. In reality from the moment they instructed the raising of the action they were personally liable for the expenses in relation to it and they knew that. Eastford's ratification of the acts of the two directors was worthless in monetary terms.

[21] At this stage in the proceedings the court cannot take any view as to whether Mr Steven Gillespie and Mr Gary Gillespie in raising the action were acting in good faith for the benefit of the company. Mr Martin accepted that that was not in issue in the debate. I must therefore assume that they acted in bona fide. If they had called a board meeting before raising the action in such circumstances I see no reason why they should not have voted on a resolution to raise proceedings against a fellow director if they believed that he had been guilty of significant breaches of his fiduciary duties to the company. Directors can disagree on matters of company business in good faith and the board as a result may decide to commence litigation in the name of the company against a director if it is satisfied that the company has a valid claim against him. In this case I was informed that Mr Steven Gillespie and Mr Gary Gillespie had thought that they needed to instruct the raising of the action urgently to obtain an interim interdict and that urgency had militated against first holding a board meeting. In so doing they exposed themselves to potential financial liabilities.

[22] I am satisfied that the pursuers have pleaded a relevant case that the existence of those liabilities did not give rise to a conflict of interest which disqualified them from voting. While the case law emphasises the strictness of the duty to avoid a situation where interests or duties are in conflict, that duty comes into play only where there is a real possibility of such conflict. In determining whether there is such a possibility the court must look objectively at the facts of the particular case through the eyes of the reasonable man. On this occasion, as presented in the pursuers' averments, I am satisfied that Eastford's known lack of any funds meant that Mr Steven Gillespie and Mr Gary Gillespie had no real prospect of avoiding personal liability for funding the action. The solicitors whom they instructed on Eastford's behalf would look to them for funding and the defenders would be able to obtain awards of expenses for which they would be personally liable. They faced potential liability as domini litis whether or not the action was ratified. The defenders would have been able to protect themselves by seeking caution for expenses under section 726 of the Companies Act 1985 as they have done. Further, as directors of a company which was of borderline solvency, they owed Eastford a duty to have regard to the interests of its creditors and in particular not to act in a way which would put such creditors in a worse position than in a liquidation: see section 172(3) of the 2006 Act, Palmer's Company Law at para 8.2625, Gore-Browne on Companies at paras 15[10B]-[10C] and, for example, West Mercia Safetywear Ltd (in liquidation) v Dodd [1988] BCLC 250 and Colin Gwyer & Associates Ltd v London Wharf (Limehouse) Ltd [2003] 2 BCLC 153. The instruction and pursuit of an uncertain litigation in the name of a company which had no assets was prima facie a breach of that duty as the company would incur actual and potential liabilities at the risk of its creditors thereby created, namely its solicitors and the defenders. If the directors instructing the action did not meet Eastford's liabilities in relation to the litigation, the defenders or another creditor could have the company wound up. The liquidator would then be in a position to pursue them for damages for breach of duty and, as Mr Sellar submitted, there would also be a prospect of disqualification proceedings.

[23] I recognise that, if Eastford had had funds to finance the action, the directors who initiated the action would have had a personal interest in the ratification of their acts which might conflict with the interests of the company; but, on the pursuers' averments, those are not the circumstances of this case.

Conclusion

[24] The defenders' motion for dismissal of the action therefore fails. I will have the case put out by order to determine further procedure.