Think you know what is best for your Company? The Court may not agree

Background

Saxon Woods Investments Limited (Saxon Woods) was a minority (22.33%) shareholder in Spring Media Investments Limited, a holding company in the fashion, beauty and luxury brand sectors (the Company). The Company and its shareholders entered into a Shareholders' Agreement (SHA) which committed the parties to work together in good faith towards an "Exit" by 31 December 2019 and, if that was not achieved, provision for an investment bank to take over the sale process.

Mr Costa, the Company's chair (and holder of indirect interests in the Company), was effectively delegated conduct of the sale process. Mr Costa believed that delaying the sale would produce a better return for the shareholders and pursued that strategy covertly - he excluded his fellow directors from the process and gave the board the impression the Company was fulfilling its obligations under the SHA when it was not.

No sale was achieved by the end of 2019 and the onset of the Covid pandemic significantly hampered the prospects of a profitable exit.

Saxon Woods brought an unfair prejudice petition under section 994 of the Companies Act 2006 (the Act) alleging that Mr Costa was personally responsible for the Company's failure to abide by the agreed exit strategy and that Mr Costa should be ordered to buy-out Saxon Wood's shares in the Company at the value that would have been achieved if the agreed strategy had been followed.

First instance decision

The question before the Court was whether a director who genuinely believes they are acting in the company's best interests can still be found to have breached their duty under section 172(1) of the Act, which requires a director to "act in the way he considers, in good faith, would be most likely to promote the success of the company."

The High Court held that the unfair prejudice petition was made out and granted a conditional buy-out order in favour of Saxon Woods. However, the Court found that Mr Costa's conduct had not amounted to a breach of fiduciary duty because Mr Costa sincerely believed he was acting in the Company's best interests. The buy-out was conditional on proof that, had the SHA process been followed, an offer above a threshold value would have been received by the Company by the end of 2019.

Court of Appeal Judgment

Both Saxon Woods and Mr Costa appealed to the Court of Appeal.

The Court of Appeal disagreed with the first instance decision, finding that Mr Costa's conduct involved dishonesty and deception, and that good faith could not be satisfied by his belief and thought processes alone. The Court of Appeal also concluded that it was not open to Mr Costa to formulate and act upon his own strategy for the success of the Company when a strategy had already been agreed and determined by the SHA. The Court therefore ordered an unconditional buy out by Mr Costa of Saxon Woods' shares at their pre-pandemic value.

Supreme Court Judgment

Mr Costa appealed to the Supreme Court. He argued that: (i) the Court should not apply an objective test to determine whether a director has breached the duty set out in section 172 of the Act; and (ii) a director who procures that his company breach a shareholders agreement is not themselves necessarily in breach of duty under section 172.

The Supreme Court unanimously dismissed Mr Costa's appeal. The key points are:

Good faith covers conduct as well as thoughts and beliefs. Section 172(1) is not confined to what a director thinks; it also requires them to act in good faith towards the Company. A covert strategy which subverts collective board decision making is incompatible with that duty
Board governance matters - the exercise of business judgment about the management of the company's affairs is conferred on the board as a whole acting unanimously or by majority. A governance constitution typically entrusts a group of individuals to manage affairs collectively. It is not for one director to "go it alone" by concealing or misleading their fellow directors to pursue a strategy which contradicts the agreed approach.

Why this matters

The decision provides guidance for directors and shareholders:

A company should act unanimously or by majority - a director who disagrees with the direction of travel should engage with the board on strategic direction, particularly where the strategy relates to critical decisions affecting company value.
Keep clear board records of strategy discussions and decisions, including any divergence from prior plans, and ensure advisers' instructions align with board-approved directives.
Shareholder agreements carry real weight and a director that procures a company's breach of that agreement may be at risk of incurring liability to the minority shareholder(s).
Unfair prejudice remedies can include costly compulsory buy outs at a valuation date favourable to the petitioner where conduct has undermined agreed rights or proper governance.

Conclusion

This case confirms that directors cannot rely on an honest belief that they are acting in the company's best interests alone to discharge their duties to the company, particularly if they are acting against the majority. A director acting in a manner that is (or is likely to be perceived as) deceitful or covert, no matter how good the intentions might be, risks being a breach of the directors' duties.