Definitive Authority on Derivative Actions in BC

Intra-company disputes often involve two broad categories of remedies:

  1. oppression: where a minority shareholder claims they are being disadvantaged by the majority in some fashion and seek to have the court exercise its broad statutory discretion to correct the issue; and
  2. derivative actions: where a shareholder or director seeks to have the court compel a company to take some form of action. Typically the action sought is for the company to recourse or action against another shareholder or director it otherwise would not seek such recourse or action against.

Recently the Supreme Court of Canada in 2538520 Ontario Ltd. v. Eastern Platinum Limited, 2021 CanLII 44590 (SCC) rejected an appeal from the British Columbia Court of Appeal decision and, in so doing, left the appeal judgment, 2020 BCCA 313 (CanLII) as a strong, recent authority on derivative actions in British Columbia.

The underlying dispute in the litigation concerned a shareholder, described as “253” seeking leave to commence a derivative action on behalf of a company, described as “EPL”, against past and present directors and officers for breaches of fiduciary duty related to such directors’ and officers’ roles in causing EPL to enter into a framework agreement and related transactions with a company described as “Union Goal” concerning mining operations in South Africa. 253’s complaints centered on what it said was a failure of EPL to conduct due diligence and to enter into agreements 253 alleged would result in costs exceeding the benefit that such agreements could yield.

There was significant procedural wrangling at the trial level, but the trial judge and Court of Appeal did not turn their decisions on such issues.

In its analysis the Court of Appeal began by citing the provisions of the Business Corporations Act which concern derivative actions, ss. 232 and 233(1):

232   (1)In this section and section 233,

“complainant” means, in relation to a company, a shareholder or director of the company;

“shareholder” has the same meaning as in section 1 (1) and includes a beneficial owner of a share of the company and any other person whom the court considers to be an appropriate person to make an application under this section.

(2)A complainant may, with leave of the court, prosecute a legal proceeding in the name and on behalf of a company

(a)to enforce a right, duty or obligation owed to the company that could be enforced by the company itself, or

(b)to obtain damages for any breach of a right, duty or obligation referred to in paragraph (a) of this subsection.

(3)Subsection (2) applies whether the right, duty or obligation arises under this Act or otherwise.

(4)With leave of the court, a complainant may, in the name and on behalf of a company, defend a legal proceeding brought against the company.

233   (1)The court may grant leave under section 232 (2) or (4), on terms it considers appropriate, if

(a)the complainant has made reasonable efforts to cause the directors of the company to prosecute or defend the legal proceeding,

(b)notice of the application for leave has been given to the company and to any other person the court may order,

(c)the complainant is acting in good faith, and

(d)it appears to the court that it is in the best interests of the company for the legal proceeding to be prosecuted or defended.

The Court of Appeal went on to detail the requirement that the party seeking a derivative action, the complainant, must be acting in good faith. This requirement is based on the notion that the primary purpose of a derivative action must be for the company (not the complainant). The complainant has the burden of proving this good faith. The court can accept a complaint’s assertion that the derivative action is sought in good faith, but that is not determinative. Without the court finding that a derivative action is sought in good faith, a derivative action will not be permitted.

The Court of Appeal next explored the best interests requirement, which requires the court to consider whether the best interests of the company, not the complainant, lie with prosecuting the proposed action. A significant consideration is whether the proposed action is likely to succeed or bound to fail. There needs to be a properly proposed legal and factual basis for the proposed action and indication that it has a reasonable prospect of success. Whether the proposed action is worthwhile is a further consideration.

Even if the good faith and best interests tests are met, the court retains discretion whether it will grant leave to commence a derivative action.

In applying this analysis, the Court of Appeal found that the trial judge did take the views of 253’s principal on the merits of the proposed derivative action into account in his good faith analysis. It was the ulterior motives of 253’s principal that were of concern. It was not enough for there to be some belief in the merits of the proposed action, the good faith requirement was focused on the primary purpose of the proposed action to be for the benefit of the company.

253’s principal was not frank with the court that he had made considerable efforts to partner with a third party to seek a controlling interest in EPL and seek to purchase chrome offtake from OPL unsuccessfully. The trial judge found the proposed derivative action was motivated by 253’s principal unsuccessful takeover bid or to obtain retribution for such failure. The Court of Appeal found that the trial judge had evidentiary basis to reject the proposed derivative action on the basis of ulterior motives for the proposed action.

The Court of Appeal affirmed that the good faith test is not subsumed by the best interest test. A proposed action can benefit a shareholder individually, but that could only coincide with the best interests of a company so far as the requirements of a derivative action were concerned. There was no clearly articulated or apparently factual basis for the proposed derivative action, being based on breaches of fiduciary duties which breaches were not detailed, supported or described.

A party considering pursuing a derivative action should consider reviewing 2538520 Ontario Ltd. v. Eastern Platinum Limited, 2021 CanLII 44590 (SCC) and considering the lengthy and well-detailed explanations of the various requirements for such an application to succeed.

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