Company Law – The Proper Purpose Rule is a valuable constraint on the well-known tendency of directors to use powers to issue Restriction Notices not in interests of a company but in interests of the management of a company in the face of criticism from shareholders.

The case concerned the powers of the directors of a company to issue a Statutory Disclosure Notice under sections 793-797 Companies Act 2006 calling for information and, where the response to that Notice was unsatisfactory, the subsequent powers regularly found in the articles of many companies to issue a Restriction Notice restricting the exercise of rights attaching to the shares of a company.

In 2013 the directors of JKX Oil and Gas Plc (“JKX”) perceived that the company had become the target of a “corporate raid” by two companies, Eclairs Group Ltd (“Eclairs”) and Glengary Overseas Ltd (“Glengary”) which, between them, owned approximately 38% of the share of JKX.  The directors of JKX issued Disclosure Notices requiring Eclairs and Glengary and those controlling those companies to provide information regarding the number of shares held in JKX, their beneficial ownership, and any agreements or arrangements between the persons interested in them. The responses admitted the existence of interests in the shares but denied that there was any agreement or arrangement amongst them.  The Board of JKX considered these responses to be inaccurate and that there was concerted action to influence or control JKX – Eclairs had invited JKX’s shareholders to oppose resolutions proposed by the Board at an upcoming AGM, including resolutions for the re-election of various directors.  The Board considered that, in the circumstances, they had reasonable cause to believe that the answers were unsatisfactory and they resolved to exercise the powers of JKX under its articles to issue Restriction Notices suspending those shareholders rights, including voting rights.

Eclairs and Glengary sought to challenge this and relied on the Proper Purpose Rule as set out under Section 171(b) of the Companies Act 2006; they contended that the Restriction Notices had been issued not for a proper purpose but in order to prevent them from voting down the directors’ resolutions at a forthcoming AGM.

For the Restriction Notices to be valid; (i) the directors’ must have had reasonable cause to believe that the answers to the Disclosure Notices were unsatisfactory (such a requirement imposed by the articles), and (ii) the directors’ in exercising such powers could only do so for a Proper Purpose of the company.  The trial judge accepted the contentions on behalf of Eclairs and Glengary, holding that this was not a proper purpose to issue the Restriction Notices and that they were invalid.  JKX successfully appealed to the Court of Appeal.

In reversing the decision of the Court of Appeal and restoring the trial Judge’s decision, the Supreme Court unanimously held that the purpose of directors’ powers to issue Restriction Notices is to (i) induce those required to provide information to comply, (ii) to impose sanctions on those who refuse to do so, and (iii) to protect the company and shareholders from having to make decisions in ignorance of potentially relevant facts.  Further, it is no part of the purpose of directors’ powers to issue a Restriction Notice to manipulate the outcome of an AGM; that is because the directors hold an undivided loyalty to the company for whose observance they are answerable to the shareholders – to allow them to use those powers to control collective decisions of shareholders would be contrary to the company’s constitution.

Eclairs Group Ltd (Appellant) v JKX Oil & Gas plc (Respondent); Glengary Overseas Ltd (Appellant) v JKX Oil & Gas plc (Respondent) [2015] UKSC 71 

Bart Casella

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