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    04:33 PM Mark Vincent (Practice Trainee, Allen and Gledhill LLP)

    Defining Shareholders’ residual powers of management: Chan Siew Lee v TYC Investment Pte Ltd and Ors [2015] SGCA 40

        

    Enshrined in S157A(1) of the Companies Act (Cap 50, 2006 Rev Ed) (the “Act”) is a hallowed principle that directors are empowered to manage the affairs of a company. Save for certain provisions in the Act and powers expressly reserved in the company’s constitution to shareholders, this rule has few exceptions.

    Consider the scenario where the board is neither able nor willing to act on behalf of the company and such company’s constitution does not expressly reserve to the shareholders any power to act. Do shareholders voting at a validly convened general meeting have implied reserve powers to undertake management decisions that are deadlocked at the board?

    The Court of Appeal (“CA”) recently considered this question in Chan Siew Lee v TYC Investment Pte Ltd [2015] SGCA 40 and authoritatively assured that shareholders indeed have reserve powers, albeit limited, to undertake decisions solely to resolve an impasse at the board. This case enunciates key principles to note in drafting transactional and constitutional documentation, including provisions concerning the rights of shareholders and directors. 

    Background

    The Appellant (“Ms Chan”) is a director and shareholder of the Respondent (“TYC”). TYC is a private company closely-held by members of the Tay family including Ms Chan’s ex-husband, Dr Henry Tay (“Dr Tay”), himself a director of TYC, and their three children. As part of their divorce settlement, Ms Chan and Dr Tay amended their deed of settlement in 2012 to regulate their ownership and management of TYC (the “Divorce Settlement”). Both Ms Chan and Dr Tay agreed in the Divorce Settlement that both their approvals are required for any payment made by TYC. Further a cheque issued by TYC may only be signed by either Dr Tay or Ms Chan if a corresponding payment voucher was issued by the other.

    TYC subsequently entered into a deed with Dr Tay and Ms Chan to bind itself by the terms of the Divorce Settlement. TYC’s Articles of Association (the “Articles”) state that no amendments to any terms of the Divorce Settlement are permitted save where all shareholders consent. Further TYC’s Articles effectively provided that both Dr Tay and Ms Chan (i) cannot be removed as directors by TYC’s shareholders; (ii) need to provide their consent for the appointment of additional directors; and (iii) may determine such appointed directors’ powers. By virtue of the Articles, TYC had to adhere strictly to the Divorce Settlement. This raised a conundrum where TYC could not fulfill its payment obligations to creditors where either Dr Tay or Ms Chan, who were both entrenched as directors, did not consent to such payment.

    Shortly after, Ms Chan withheld consent for TYC’s payment to its creditors causing the board to stall and fail to approve TYC’s outstanding payments. Dr Tay validly convened an Extraordinary General Meeting (“EGM”) as per the Articles. Dr Tay and his son’s collective ownership of the majority (51%) of TYC’s shares was adequate to approve various ordinary resolutions to (i) permit Dr Tay to unilaterally approve payments; and (ii) appoint lawyers to commence proceedings against Ms Chan for her failure to consent to aforesaid payments. These creditors included KPMG Services Pte Ltd (“KPMG”), a company that undertook advisory services for TYC, Express Co Registration & Management Ltd (“Express Co”), another company that rendered services for the EGM, and TSMP Law Corporation, TYC’s appointed solicitors. TYC commenced proceedings in the High Court seeking declarations to validate the resolutions passed at the EGM and cheques issued unilaterally by Dr Tay.

    The High Court’s View           

    The High Court (“HC”) in TYC Investment Pte Ltd & Ors v Tay Yun Chwan Henry and another [2014] 4 SLR 1149 considered whether TYC’s shareholders had the power to approve payments to TYC’s creditors, a managerial decision typically left to directors, granted that the board was deadlocked. It acknowledged that such managerial decisions are typically the preserve of directors save for where the board is unable to act and it is necessary for shareholders to intervene solely to unravel such deadlock.

    In the present case, the deadlock could not be resolved without the Court’s declaration as (i) the Articles failed to provide a contractual remedy; and (ii) the board could not be reconstituted without Dr Tay and Ms Chan’s approval. The HC solely permitted the shareholders’ resolution appointing lawyers to commence proceedings to resolve the deadlock. It disallowed other resolutions that empowered Dr Tay to unilaterally issue any payments on TYC’s behalf to creditors as these were matters to be properly addressed by TYC’s management.

    It was further claimed that Ms Chan had breached (i) her fiduciary duty owed to TYC; and (ii) an implied term in Divorce Settlement not to approve payments arbitrarily, by failing to approve payments. The HC disallowed such further claim as Ms Chan had a bona fide belief that the expenses incurred were not valid.

    Decision of the Court of Appeal

    Derogating from the HC’s view, the CA declared that TYC’s shareholders did have the implied reserve power to authorise Dr Tay to unilaterally sign, on TYC’s behalf, cheques for payment of TYC’s creditors including the fees owed to solicitors appointed to unravel the deadlock.

    The CA instead approved TYC’s payments to KPMG, notwithstanding absence of Ms Chan’s consent, as bona fide advisory services were performed and payment was warranted. Express Co’s fees and a portion of the solicitors’ fees for work performed towards resolving the deadlock were also declared valid as shareholders of TYC have the reserve power to commence proceedings to unravel the deadlock. The solicitors however were not permitted to recover any fees relating to TYC’s claims against Ms Chan for breach of fiduciary duty as this was a managerial decision more properly brought under S216A of the Act.

    Narrow Scope to Imply Shareholder Reserved Powers

    The CA emphasised the key principles for implication of reserved powers to shareholders as follows:

    1.    shareholders may only act on managerial decisions where the board is deadlocked or is unable or unwilling to act;   

    2.   the extent of such power is strictly restricted to acts necessary to resolve such deadlock and undertake the company’s performance of a bona fide obligation owed to a third party;           

    3.   there is no information suggesting such an obligation is not in the company’s best interest; and

    4.   there is no other plausible way to break the deadlock.

    Further the decision taken by shareholders must adhere procedurally and substantively to the articles of the company. Shareholders’ adherence to the company’s constitutional provisions is paramount. S39 of the Act prescribes compliance by the company and its shareholders with terms agreed in the articles. The exercise of any implied reserve power by shareholders cannot contravene any such term. 

    The stringent requirements above prevent shareholders from usurping managerial decisions. It confines shareholders to take, only in narrow circumstances, the minimum necessary steps to sustain a company’s operations by enabling it to meet its bona fide obligations to third parties. In most circumstances where directors’ board appointments are not entrenched, shareholders may resort to alternative ways to resolve such a deadlock. This includes (i) reconstitution of the board of directors through appointment or removal of directors; or (ii) pursuing a derivative action under S216A of the Act. However, both these options were inapplicable on the present facts.

    Distinguishing a Derivative Action under S216A of the Act

    The CA clarified at [58] that the raison d'être of S216A of the Act is for shareholders to commence proceedings for alleged wrongs done to the company that directors, who may themselves be the wrongdoers, are unwilling to pursue. It holds errant directors to account for their misfeasance or nonfeasance.

    The threshold to satisfy a court to grant leave under S216A is showing a wrong done to the company. Present facts do not show any wrongdoing by Ms Chan who acted bona fide in her belief that the payments to creditors were not warranted. These were valid commercial considerations to be determined by directors. The CA emphasised at [61] that a court is in no position to rule how a director should exercise his or her discretion or function. It bears repeating that “a court would not be in a position…to substitute judicial discretion for the commercial discretion” (at [61]). On the strength of such analysis, it seems unlikely that TYC’s shareholders will be granted leave to pursue a S216A deriviative action to act on behalf of the company absent any breach of duty owed to TYC by Ms Chan as a director.

    Further it is impractical for a company to commence a S216A derviative action each time a deadlock arises. Shareholders would have to incur hefty costs (albeit largely reimbursed by the company subject to the court’s discretion) and the time taken to procure leave to resolve the deadlock at trial may further prejudice the interests of third party creditors in the meantime. Unable to function, the company is likely to have breached obligations owed to third parties by such time that may trigger claims against the company.

    Concentration of Ownership to Approve Resolutions

    It is worth noting that where appropriate to imply reserve powers in favour of shareholders, a functioning majority of shareholders is required to approve a resolution at general meeting to resolve a deadlock. Where shareholding is dispersed it is impractical to imply any such reserve powers as any decisions are unlikely to be approved at general meeting. Without such majority, an aggrieved shareholder’s only relief may be pursuing a derivative action to resolve the deadlock assuming the court grants leave to do so.  

    Further, should ownership be concentrated in a super-majority of shareholders (above 75% conventionally), an amendment of articles per S37 of the Act may be undertaken via special resolution to reserve shareholders the power to act expressly. Thus for such reserve powers to be implied, the functioning majority of a company voting in favour of such resolution has to range within 50% and 75% of the company’s total shareholding.

    Safeguarding Interests of Shareholders and Third Parties

    The CA’s decision is welcomed for third parties, particularly creditors, as they are assured that companies are more than likely to honour obligations owed to any such creditor. In the unfortunate circumstance that the board is deadlocked over decisions to perform such obligations, creditors’ interests are unlikely to be prejudiced. Save for (i) where the performance of an obligation is not bona fide; or (ii) there is material indicating it is not in the company’s interest to honour such an obligation, the company is duty bound to perform.

    Assuming the board of directors is unable to decide conclusively on whether a company shall perform and the above requirements for implied reserve powers are met, shareholders may expediently step in to authorise the company to act. The CA emphasised this at [47] that disputes within the company ought not to paralyse the company and prejudice innocent third parties dealing with it. The present case concerned TYC’s obligations to creditors. TYC’s failure to comply may prejudice a shareholder’s economic interests should creditors commence proceedings to collect debts. Conversely such an option saves a creditor time and costs incurred through initiating proceedings against the company for failure to perform its payment obligations.

    Further, shareholders’ interests are better protected. The commercial intent behind vesting managerial powers in directors in lieu of shareholders is that the former are constrained to act in accordance with fiduciary duties owed to the company. The CA stressed at [40] that shareholders, however, bear the greater economic risk of corporate failure. Where deadlocks amongst directors prevent the company’s ability to function, such implied reserve powers permit shareholder intervention upon meeting the foregoing requirements to safeguard their interests.

    Moving Forward: Providing Clear Mechanisms to Resolve Deadlocks

    This case reinforces the importance of catering for mechanisms to resolve board deadlocks. Traditionally, reserved matters that require unanimous or super-majority consent are likely to be expressly provided for in a company’s articles. Otherwise, deadlock resolution mechanisms provisions are increasingly commonplace in company constitutional documents with two or more substantial shareholders such as joint venture corporates. Once triggered, these mechanisms institute a process for resolution without delay. Without such mechanisms, issues may arise that are difficult to resolve such as the present case. It is henceforth critical for drafters to appreciate and provide for any foreseeable obstacles that directors will be unable or unwilling to act upon collectively.

    The CA acknowledged that shareholders may eschew altogether implied reserve powers to undertake management decisions through this must be provided for in sufficiently clear terms. In this case, the Divorce Settlement was aimed at safeguarding against improper payments rather than excluding any implication of reserved powers. The Articles merely limited TYC’s ability to alter the payment terms in the Divorce Settlement. There was no express term barring implication of reserved powers.

    An express provision denying shareholders’ the right to any implied powers may provide certainty that the company’s managerial powers are fully the preserve of directors. However, this may bar shareholders from actively safeguarding their economic interests where the board is deadlocked. It may be practical instead to provide that any matter unresolved by the board shall be resolved conclusively by shareholders in a general meeting.

    * This blog entry may be cited as Mark Vincent, “Defining Shareholders’ residual powers of management: Chan Siew Lee v TYC Investment Pte Ltd and Ors [2015] SGCA 40”, Singapore Law Blog (15 September 2015) (http://www.singaporelawblog.sg/blog/article/135)

    ** A PDF version of the entry may be downloaded here

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