Shareholders’ recourse against company director restricted – remedy available only while company is still in operation

The court restricted a director’s liability in a recent judgement in which plaintiffs invoked unfair prejudice in terms of Article 402 (1) and 402 (3) (f) of Chapter 386 of the law of Malta (Companies Act). The lawsuit was filed against one of the past directors of the Company in which they were shareholders, and this while the said company was already in the process of winding up. In invoking these provisions the plaintiffs sought compensation from the defendant in terms of article 402(3) (f) of the Companies Act, which compensation necessitates the court to find the defendant responsible for loss or damage suffered by the applicant as a result of his acts or omissions. On 28 March 2019, the Civil Court (Commercial Section) presided over by Judge Joseph Zammit McKeon delivered its judgement in Alessandro Farrugia et. vs John Mercieca et. wherein it found that a shareholder of a company in the process of winding up cannot invoke the said article against a past director of the company, despite the article stating that any member of a company can complain that the affairs of the company “…have been or are being or are likely to be, oppressive, unfairly discriminatory against, or unfairly prejudicial, to a member of a company…”

Winding Up of Companies & Director’s Liabilities

 In its judgement the court referred to Antonio Caruana et vs Joseph Debono et, decided by the Commercial Court on the 7th of July 1960, wherein it was stated that the winding up is that transitory period which is necessary to determine, through a series of operations, the assets of the company and to conclude pending operations. The liquidator is the mandatory chosen by the members, or by the Court, to bring to an end such pending operations, determine the assets and extinguish the liabilities, and in this manner to provide a clear picture of the state of the company. During this period, the liquidator cannot give rise to new operations as his responsibility is solely limited to extinguishing pending operations and to liquidate the assets and liabilities of the company.

In this case the court reasoned that since the company in which the plaintiffs were shareholders is in the process of winding up, Article 402 of the Companies Act could not be invoked as this is tantamount to a new action.

On The Words ‘have been conducted’ in Article 402(1)

The purpose of Article 402 is to give the possibility to shareholders to ask the court to intervene in instances where the affairs of the company have been or are likely to be conducted, or an act or an omission of the company have been or are likely to be oppressive, unfairly discriminatory against, or unfairly prejudicial to any of its members. Regardless of the wording “have been conducted”, on which the plaintiffs based their claims, the Court concluded that it is evident that such intervention is deemed necessary when the company is still in operation. The Court concluded that the common denominator in all the remedies provided in Article 402(3) of the Companies Act is in fact the presumption that the company is still operative.

Derivative Action or not Derivative?

The court also noted that although this was not a Derivative Action, the company still has to be operative for article 402(3) (f) to be invoked. The Maltese version of the derivative action is to be found in Article 402(3) (e) and although there are similarities between this action and the Derivative Action, the two are not the same. Prior to 1995 the derivative action, which has its roots in common law, was considered and accepted by local jurisprudence as an extraordinary remedy to protect shareholders from fraudulent directors or individuals who could control a company. After the enactment of chapter 386 of the Laws of Malta (Companies Act), the derivative action was given a statutory form in Article 402(3) (e) of the Act.

One of the main differences between Article 402(3) (e), the statutory form of the derivative action, and Article 402(3) (f) is that in the former the applicant is vested in and acts on behalf of the company seeking relief, while in the latter the shareholder acts in his or her own name. However, the court through this landmark judgment made it clear that any action under Article 402 of the Companies Act presupposes the existence of a company that is still in operation.

Lawyer Peter Fenech assisted defendants.