A breach of directors’ duties: shares allotted

Year Published: 2021

Company directors are subject to certain obligations to ensure they act in the best interests of the company as a whole, rather than for the personal gain of any individual. The recent case of TMO Renewables Ltd (in liquidation) v Yeo and others [2021] EWHC 2033 (Ch) centred on an alleged breach of directors’ duties around the allocation of shares and whether it was carried out to raise capital for the company or to maintain control and block a resolution.

 

Facts of the case

The case involved the issue of shares in a scientific research company.   A group of shareholders attempted to remove them certain directors at a requisitioned general meeting; those directors issued shares in response to that action.

The company had been involved in various fundraisings and restructurings due to financial difficulties. In September 2013, a dispute had arisen between the directors in respect of the wording of a circular to be sent to the shareholders. This resulted in two of the directors (the ‘dissenting directors’) refusing to put their names on the circular which the other directors had approved. A conflict then ensued between the two dissenting directors and the other four directors (the ‘defendant directors’).

The two dissenting directors and a third individual requisitioned a general meeting to pass a resolution to remove two of the defendant directors and appoint one of its beneficial owners as a new director of the company in order to obtain board control.

In response, the defendant directors issued 75 million shares in the company to an investor for £3 million on terms which required the investor to vote against the resolution. The cash payable by the investor was to be paid to the company within the following two years, as opposed to being immediately payable. The defendant directors subsequently issued another 2,625,000 shares to an existing investor instead of giving the investor the cash which it was supposed to receive on completion of one of the fundraisings.

 

Alleged breach of director’s duties

A few months later the company went into liquidation and the liquidators brought proceedings in the name of the company against the defendant directors (the former chief executive, chair and two non-executive directors) for alleged breach of their director’s duties.

The liquidators claimed that the defendant directors had breached their duties under sections 171 and 172 of the Companies Act 2006.

Section 171 requires a company director to only exercise their powers for the purposes for which they are conferred. A significant part of this is ensuring that they are complying with the company’s constitution (which is mainly its articles of association).

Under Section 172, a director must act in a way which he or she considers, in good faith, is most likely to promote the success of the company for the benefit of its members as a whole. There are various factors which a director should have regard to in order to ensure compliance with this duty.

 

Decision of the court

The court held that the defendant directors had breached their duties under sections 171 and 172 by issuing shares to the investors merely to defeat the proposed resolutions and maintain control of the company as opposed to raise capital for the company.

The court noted that the shares issued to one of the new investors were on terms which permitted the investor to pay the cash over a two-year period. Given that the company would soon become insolvent, it was not plausible that the issue of shares would have been intended to assist with the company’s cashflow problems in the short term.

It also noted that the number of shares to be issued to one of the investors seemed to be calculated in a manner which would have given the relevant investor a sufficient level of voting power to defeat the resolutions.

The defendant directors had also breached section 172 by not having had regard to the interests of the company’s creditors and due to false representations being made to the board claiming that the £3 million cash from the investor had been received, which the defendant directors knew not to be the case.

 

Significance of the case

The case demonstrates the importance of directors being aware of, and complying with, their duties. They must not exercise their powers for their own benefit or to advance their own position. It also serves as a useful reminder that the powers of a director to allot shares are conferred for the purpose of raising equity capital only and not for the purpose of blocking a resolution or merely to maintain control of a company.

Whilst there are likely to be circumstances in which an action would benefit both the director individually and the company, the primary purpose of the course of action must not be to benefit the former.

If you are considering allotting shares or taking any other action as a company director and would like to discuss this, please do not hesitate to contact a member of the Corporate Team.

For more information contact Sophie Adshead on 0161 475 1235  or [email protected]

 

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