If you’re a shareholder, you may ask yourself: what is a derivative claim and how does it work? When directors commit a breach of duty, misuse company property, or fail to act in the best interests of the company, you may feel powerless. This is especially true for a minority shareholder who may struggle to influence company decisions. A derivative claim allows you to bring proceedings on behalf of the company to hold directors accountable and protect the success of the company.
The basics of a derivative claim
A derivative claim is a type of court action where a shareholder bringing a case acts on behalf of the company rather than in their own right. You are not seeking damages for yourself but for the company as a whole.
If directors are found to have committed wrongdoing, such as misuse of company funds or failing to exercise reasonable care, the court may order damages payable to the company. The outcome benefits all members in the same way because the company’s success is restored.
When you can bring a derivative action
You can bring a derivative action in circumstances where:
Directors commit a breach of fiduciary duties.
A proposed transaction threatens shareholder value.
Directors put personal interests ahead of the company’s interests.
A past act continues to damage the business.
Further breaches occur after concerns have already been raised.
The proper claimant is the shareholder, but the court must grant permission before you can commence derivative proceedings. This requirement ensures that only serious cases are pursued.
The statutory two stage process
A statutory derivative claim under the Companies Act follows a clear two stage process:
First stage – you file a claim form, setting out a prima facie case that wrongdoing has been committed. The court considers the evidence and may refuse permission if it is not satisfied.
Second stage – if successful at the first stage, the court then weighs other factors such as good faith, best interests of the company, the importance of protecting shareholder rights, and the views of other shareholders.
This process is designed to prevent claims being used in the wrong way and to ensure the court action truly serves the success of the company.
What the court considers
Before granting permission, the court considers several factors:
If directors acted in accordance with their duty to promote the company’s success.
If they exercised reasonable care and respect for the interests of the company.
If pursuing proceedings would bring benefit rather than harm.
If the person acting as claimant is doing so in good faith.
If directors should be held personally liable for the wrong.
Other factors such as the importance of stability and avoiding damage to business relationships.
The court will also consider if damages payable are a proportionate remedy and if the act sets a precedent that may guide future cases.
Step-by-step: how to bring a derivative
Identify wrongdoing committed – for example, misuse of company property or a breach of fiduciary duties.
Review your shareholder agreement and the company’s articles – these may set out duties and procedures.
Seek professional advice – understanding the law and preparing a strong claim form is vital.
Commence derivative proceedings – file the claim form with the court and set out your prima facie case.
First stage – the court decides if the evidence is strong enough. If not satisfied, it may refuse permission.
Second stage – the court examines further factors, including good faith and the best interests of the company.
Proceedings continue – if granted, directors may be held liable, and potential remedies may be ordered.
How a derivative claim compares to other remedies
It’s easy to confuse a derivative claim with other legal actions:
Derivative claim – a shareholder bringing proceedings on behalf of the company.
Unfair prejudice petition – a shareholder acting in their own name where they have been treated unfairly.
Just and equitable winding up – where the court decides that dissolving the company is the only option.
Each act addresses different circumstances, so choosing the right route is key.
Common pitfalls
Waiting too long before taking action.
Confusing a derivative claim with a personal claim.
Filing without strong evidence for the prima facie case.
Overlooking the importance of a shareholder agreement in defining director duties.
Ignoring alternatives such as arbitration or mediation.
Preventing the need for derivative proceedings
You can reduce the risk of having to bring a derivative claim by:
Drafting a clear shareholder agreement.
Ensuring directors are acting in accordance with the duty to promote the company’s success.
Setting out clear policies in the company’s articles.
Promoting open communication among members.
Building in dispute resolution procedures for certain specified types of conflict.
By taking these steps, you protect shareholder value and minimise the need for court action.
Final thoughts
A derivative claim is a valuable tool for holding directors accountable when they fail in their duties. It allows you to bring proceedings on behalf of the company, protect shareholder value, and promote the success of the company.
While the two stage process can be complex, and the court may refuse permission in some cases, a well-prepared claim supported by evidence can ensure directors are held liable. By taking action early, you protect the company, respect the law, and safeguard the interests of the company for all members.
FAQs
What is a derivative claim?
It’s a court action where a shareholder brings proceedings on behalf of the company to address wrongdoing by directors.
Who is the proper claimant?
The proper claimant is a shareholder, not a director or third party.
Do I need permission to bring proceedings?
Yes. The court must grant permission before a derivative action can continue.
What is the two stage process?
First stage: you file a claim form and set out a prima facie case. Second stage: the court considers other factors, including good faith, best interests, and the views of other shareholders.
Can a derivative claim address a past act?
Yes, if the past act still harms the company’s success.
What happens if the court refuses permission?
The claim cannot proceed, and you may be responsible for costs.
Do damages payable go to the shareholder?
No, damages are paid to the company, not to the shareholder bringing the claim.
Can personal representatives pursue a derivative action?
Yes, in some circumstances personal representatives can bring a derivative on behalf of a deceased shareholder.