Article: Proper Plaintiff Rule and No Reflective Loss Principle

In company law, what’s the proper plaintiff rule and the no reflective loss principle? Why is it said that only the company can bring claims regarding corporate wrongs? Can the shareholder ever do so?

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No Reflective Loss Principle

Generally, the property of a company cannot be treated at law as also the property of the shareholders, even if there is only one shareholder. Loss of a company’s assets is not a loss of the shareholder. The shareholder’s loss is merely, at most, a decline in value of his shares.

The “no reflective loss” principle bars “a shareholder’s personal action to recover a reduction in the value of his shares” and only applies “when there are overlapping claims by both the company and the shareholder against the same defendant”: Pearlie Koh, “The Shareholders Personal Claim Allowing Recovery for Reflective Losses” [2011] 23 SAcLJ 863, 86 at [7].

The Singapore Court of Appeal in in Townsing Henry George v Jenton Overseas Investment Pte Ltd (in liquidation) [2007] 2 SLR(R) 597 (CA) (“Townsing”) at [69]-[70] approvingly cited Johnson v Gore Wood & Co [2002] 2 AC 1 (HL) (“Johnson”) and accepted that “[a] claim will not lie by a shareholder to make good a loss which would be made good if the company’s assets were replenished through action” and the principle includes “all other payments which the shareholder might have obtained from the company if it had not been deprived of its funds” (Johnson at 35, 66; see also Ng Kek Wee v Sim City Technology Ltd [2014] 4 SLR 723 (CA) at [61]).

The rationale is that the shareholder’s loss merely “reflected the diminution of the company’s assets” (Johnson at 66, per Lord Millett). The policy reasons for the principle are to: (i) prevent double recovery against a same defendant; and (ii) protect the company creditors (Johnson at 62, per Lord Millett, approved in Townsing at [75]; see also Pearlie Koh at [12]-[25]; Beckkett Pte Ltd v Deutsche Bank AG and another and another appeal [2009] 3 SLR(R) 452 (CA) at [56], [85]).

Lord Bingham’s analysis of three scenarios in Johnson at 35-36 is instructive (Lee Seng Eder v Wee Kim Chwee and others [2015] SGHCR 2 at [23]; Hengwell Development Pte Ltd v Thing Chiang Ching and others [2002] 2 SLR(R) 454 (HC) at [18]):

First, where a company suffers loss caused by a breach owed to it, only the company may sue in respect of that loss;

Second, where a company suffers loss but has no cause of action to sue to recover that loss, the shareholder may sue in respect of it (if he has a cause of action to do so), even though the loss is a diminution in the value of the shareholding; and

Third, where a company suffers loss caused by a breach of duty to it, and a shareholder suffers a loss separate and distinct from that suffered by the company caused by breach of a duty independently owed to the shareholder, each may sue to recover the loss caused to it by breach of the duty owed to it but neither may recover loss caused to the other by breach of the duty owed to that other.

Proper Plaintiff Rule

What is the proper plaintiff rule or principle? Simply put, it is that only the company can bring a claim against a party for a wrong committed against the company. No one else can. Not its shareholders or creditors or directors. This rule was laid down in the English decision of Foss v Harbottle (1843) 67 ER 189.

Subsequently, exceptions were created to the rule. These led to what is known as the common law derivative action. So shareholders of the company can bring a derivative action on behalf of the company. The common theme in these exceptions is that they protect minority shareholders’ rights.

Where the wrongdoer against the company is the person controlling the company in the first place. Obviously, he won’t make the company sue himself.

Where the majority shareholders or directors use their power in an illegitimate / ultra vires manner.

Fraud on the minority: an abuse of power whereby the directors or majority shareholders, who are in control of the company, secure a benefit for themselves at the expense of the company.

Subsequently, the statutory derivative action was introduced. In Singapore, the Companies Act provides in section 216A for shareholders / members of the company (among others) to be able to bring a derivative action on behalf of the company.

The Court of Appeal in Ng Kek Wee v Sim City Technology Ltd [2014] 4 SLR 723 (CA) (“Ng Kek Wee”) expressly stated at [63] that although “it is not uncommon to find a petition founded upon facts which also disclose a concurrent wrong against the company, which would usually be a breach of director’s duties … this is quite separate and distinct from permitting s 216 of the Companies Act to be used to vindicate essentially corporate wrongs”. At [64]-[65], the Court stated:-[See Assoc Prof Pearlie M C Koh, “A Reconsideration of the Shareholder’s Remedy for Oppression in Singapore” (2013) CLWR 42 1 (61) at 82-89]

“64 We do not think the latter should be permitted, for two broad reasons. First, an overly permissive interpretation of s 216 of the Companies Act would run counter to our present legislative scheme which provides for the commencement of a statutory derivative action pursuant to s 216A of the Companies Act. In “A Reconsideration of the Shareholder’s Remedy for Oppression in Singapore” (2013) CLWR 42 1 (61), Assoc Prof Pearlie M C Koh observes that when the Companies Act was amended to include s 216A, the marginal note to s 216 which then read “Remedies in cases of oppression or injustice” was amended to read “Personal remedies in cases of oppression or injustice”. We agree with her that this was indicative of the legislative intention to clarify the distinction between the action for personal relief under s 216 of the Companies Act and the action for corporate relief under s 216A of the Companies Act. The distinction between the two is further highlighted by the inclusion of s 216(2)(c) of the Companies Act which provides that the court may, as a remedy in a personal action, “authorise civil proceedings to be brought in the name of or on behalf of the company by such person or persons and on such terms as the Court may direct”, ie, a derivative action. Were it permissible for s 216 of the Companies Act to be used to vindicate essentially corporate claims, s 216(2)(c) of the Companies Act would be rendered nugatory. It is further pertinent to note that there are standing requirements under s 216A(3) of the Companies Act that must be satisfied before a complainant can apply to court for leave to commence a statutory derivative action. These requirements are important built-in safeguards that ensure that any litigation brought by a shareholder to pursue corporate claims is guided by the legitimate interests of the company and would result in an increase in the corporate value. In our judgment, Parliament could not have intended for shareholders to sidestep these requirements by characterising a claim for corporate relief as a personal claim.

65 Further, and related to the above, allowing an essentially corporate claim to be pursued under s 216 of the Companies Act would be an abuse of process as it amounts to an improper circumvention of the proper plaintiff principle which, far from being a legalistic procedural obstacle, is the consequence of the fundamental doctrine of separation of legal personality that underpins company law. Where a wrong has been done to the company, the interests of other shareholders of the company as well as the company’s creditors will have been similarly affected. The claimant shareholder should not be allowed to proceed by way of a personal action and recover at the expense of these other similarly affected parties. Related to this is the danger that the defendant may face a multiplicity of suits from different claimants for essentially the same wrong done to the company. This is evidently problematic and economically inefficient.”

The Court in Ng Kek Wee at [66]-[70] then posited an analytical framework as to when a minority shareholder’s oppression claim is properly brought:

“… [After considering the English case of Re Charnley Davies Ltd (No 2) [1990] BCLC 760:]

Hence, an action for s 216 is appropriately brought where the complainant is relying on the unlawfulness of the wrongdoer’s conduct as evidence of the manner in which the wrongdoer had conducted the company’s affairs in disregard of the complainant’s interest as a minority shareholder and where the complaint cannot be adequately addressed by the remedy provided by law for that wrong …

[After considering the Canadian case of Pappas v Acan Windows Inc (1991) 2 BLR (2d) 180:]

… in order to succeed in a minority oppression action, the minority shareholder has to show something more than the unlawfulness of the defendant’s conduct and further that the shareholder’s injury does not merely reflect that suffered by the company.”

The no-reflective loss principle has been applied successfully to debar claims in minority shareholders’ oppression cases which are in fact wrongs to the company and not the shareholders: Law Chin Eng and Another v Lau Chin Hu and Others [2008] SGHC 187 at [31]; Lee Seng Eder v Wee Kim Chwee and others [2015] SGHCR 2 at [27]-[28]; Loh Sze Ti Terence Peter v Gay Choon Ing [2008] SGHC 31 at [74]; Ng Kek Wee v Sim City Technology Ltd [2014] 4 SLR 723 (CA) at [71] (dicta only).

Where the No Reflective Loss Principle Doesn’t Apply

“[A] shareholder … is not debarred from recovering damages because the defendant owed a separate and similar duty of care to the company, provided that the loss suffered by the shareholder is separate and distinct from the loss suffered by the company” (Johnson at 51, per Lord Hutton). Hence, the characterisation of loss is significant as to whether the “no reflective loss” principle would bar a claim.

Exceptions to the No Reflective Loss Principle

There are two situations where a shareholder may nevertheless claim in respect of the company’s loss.

Company has no cause of action to sue

In Johnson, Lord Bingham at 35 stated that “[w]here a company suffers loss but has no cause of action to sue to recover that loss, the shareholder in the company may sue in respect of it (if the shareholder has a cause of action to do so), even though the loss is a diminution in the value of the shareholding”: Pearlie Koh, “The Shareholders Personal Claim Allowing Recovery for Reflective Losses” [2011] 23 SAcLJ 863, 86 at [22].

For instance, where the contract breached was between a shareholder and a 3rd party even though the company suffered losses because the benefit of the contract was intended to be for the company: Fischer (George) (Great Britain) Ltd v Multi Construction Ltd [1995] 1 BCLC 260 (unable to obtain a copy of this case report) cited by Lord Bingham in Johnson at 35; see Pearlie Koh, “The Shareholders Personal Claim Allowing Recovery for Reflective Losses” [2011] 23 SAcLJ 863, 86 at [23]..

However, the no-reflective loss principle nevertheless applies where the company had the cause of action to sue but declined or failed to sue, or the company has settled the claim: Townsing at [73]; Johnson at 66; Prudential Assurance Co. Ltd. v. Newman Industries Ltd. and Others (No. 2) [1982] 1 Ch 204 (CA) at 223; Waddington v Chan [2008] HKCFA 63 at [87]; Gerber Garment Technology Inc v Lectra Systems Ltd [1997] RPC 443, 471 per Lord Millett (unable to find a copy of this case report), referred to in International Leisure Ltd v First National Trustee Ltd [2013] Ch 346 at [39].

Company disabled from pursuing cause of action by the wrongdoer

Subsequently, the UK Court of Appeal in Giles v Rhind [2003] 1 Ch 618 posited another exception (referred to in International Leisure Ltd v First National Trustee Ltd [2013] Ch 346 at [37]; Pearlie Koh, “The Shareholders Personal Claim Allowing Recovery for Reflective Losses” [2011] 23 SAcLJ 863, 86 at [25]). Chadwick LJ at [34] stated:-

“One situation which is not addressed is the situation in which the wrongdoer by the breach of duty owed to the shareholder has actually disabled the company from pursuing such cause of action as the company had. It seems hardly right that the wrongdoer who is in breach of contract to a shareholder can answer the shareholder by saying, ‘The company had a cause of action which it is true I prevented it from bringing, but that fact alone means that I the wrongdoer do not have to pay anybody’.”

The Singapore Court of Appeal in Townsing approvingly cited Giles v Rhind and stated: a “shareholder will … be permitted to recover damages for his loss where the wrongdoer, by the breach of duty owed to the shareholder, has actually disabled the company from pursuing such cause of action as the company had”: at [73].

The decision in Giles v Rhind has been criticized by Lord Millett and not followed by the Hong Kong Court of Final Appeal in Waddington v Chan [2008] HKCFA 63 at [81]-[88]. Lord Millett thought that the facts in Giles v Rhind did fall within the situation which attracted the no-reflective loss principle, as he had explained in Johnson.

It is also unclear whether the Singapore Court of Appeal’s comments in Ng Kek Wee at [63]-[70] would be a gloss to the Court’s affirmation of the proposition in Giles v Rhind. I think it is plausible to read the comments in Ng Kek Wee as absolutely precluding any possible claim for a company’s loss in a s 216 case. The proper route for the shareholder in Singapore in a situation as in Giles v Rhind would be to pursue a s 216A action.

Singapore Exception to the No Reflective Loss Rule

The position in Singapore, unlike the UK which adopts an absolute approach (Pearlie Koh, “The Shareholders Personal Claim Allowing Recovery for Reflective Losses” [2011] 23 SAcLJ 863, 86 at [27]-[29]), appears to be that a shareholder may not be subjected to the no-reflective loss principle if: (1) he could give an undertaking that the company will not also claim against the defendant and (2) if the company had no other creditors or shareholders who might be prejudiced by the shareholder’s claim (Townsing at [85]-[86]; Hengwell Development Pte Ltd v Thing Chiang Ching [2002] 2 SLR(R) 454 (HC) at [22]; Beckkett Pte Ltd v Deutsche Bank AG and another and another appeal [2009] 3 SLR(R) 452 (CA) at [56], [85]). See my article: Ronald JJ Wong and Jeremy Yeo Wen An, “Reflective Loss, Reverse Piercing and Alter Ego in Koh Kim Teck v Credit Suisse AG, Singapore Branch [2015] SGHC 52”, Singapore Law Blog (31 March 2015).

In Townsing, the Court of Appeal held that the plaintiff’s losses were reflective losses of the company. However, the court considered that had the principle been pleaded at trial, it would have been successful to preclude the plaintiff’s claims. The court observed at [85]-[86] that:-

“We may reasonably assume that Jenton would have been able to procure NQF to give an undertaking to the court not to sue the appellant in order to continue with its claim against the appellant since NQF was a wholly-owned subsidiary of Jenton. Also, NQF had no creditor other then Jenton … Such an undertaking would have disapplied the principle of reflective loss as there would be no possibility of double recovery”.

In the earlier High Court decision of Hengwell Development Pte Ltd v Thing Chiang Ching [2002] 2 SLR(R) 454 (HC), Lai J at [22] stated:

“A litigant is not to be lightly turned away from bringing a genuine cause before our courts. A fortiori, if there is no risk of double recovery and there is no prejudice to the creditors or shareholders of the company, which has no remedy in any event under Chinese law, the policy reasons behind the decision in Johnson v Gore Wood & Co do not apply.”

However, the law is not as definite or clear as it seems. There have been cases, even Singapore Court of Appeal decisions, where corporate wrongs or losses to the company have been claimed for in actions by (usually minority) shareholders against the wrongdoers (usually the majority shareholders and/or directors). This is best discussed in a separate article.

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