Examiners’ reports 2016

Examiners’ reports 2016

LA3021 Company law – Zone A

Introduction
The exam paper followed the same format as in previous years. Most students
complied with the ‘rubric’, answering at least two problem questions and at least
one essay question. Students should refer to the Assessment Criteria to familiarise
themselves with the criteria that are applied to assessed work.
As in previous years, the most common weakness was a failure to answer the
question asked. Too many answers – and especially those to ‘essay’ questions –
read like ‘pre-prepared’ answers to a different question from the one actually asked
on the exam paper. We cannot emphasise enough the importance of taking time, in
the exam, to read and think about the question, working out what knowledge you
have that is relevant to it and then using that knowledge to produce an essay that
focuses on the actual question asked. This should always produce a better mark
than regurgitating an essay that may contain more information but information
which is simply irrelevant to the question asked.
Note that errors in student extracts, below, were present in the original extract.
All statutory references below are to the Companies Act 2006 unless you are told
otherwise.

Comments on specific questions

PART A
Question 1
‘UK company law still has a “one size fits all” approach. Its rules do not
distinguish sufficiently between large companies and small ones.’
Discuss.
General remarks
This question raised a perennial issue within UK company law: does it distinguish
sufficiently between different sizes of company and their different needs? The
question suggests it does not do so and answers ought to try to reach a conclusion
whether that is true. However, no answer could possibly examine company law in
its entirety. Students can be selective, choosing just some areas of company law to
find examples of how the law either does, or fails to, distinguish differently sized
companies.

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Law cases, reports and other references the examiners would expect you to
use
CA 2006, picking examples where it does, or does not, distinguish between
differently sized companies, e.g. provisions on company meetings, accounts,
directors and their duties, company secretaries, derivative claims, raising and
maintenance of capital, shareholder rights, the Model Articles. Mention also relevant
areas of case law, such as those dealing with the unfair prejudice regime, where
courts have developed distinctive rules for the ‘quasi-partnership’. Consider the
Modern Company Law Review, and its emphasis on ‘Think Small First’.
Common errors
A failure to focus on the question. Many essays considered only if the company was
good for business. This question was different, asking if company law in the UK
distinguishes sufficiently between different sizes of company. Some essays tended
to ask only whether company law deals well with small companies. Whilst they
partially answered the question, they were also incomplete, for the question
required one to address how well companies of both sizes are served by UK
company law.
A good answer to this question would…
perhaps begin by explaining the major differences between large and small
companies. Larger companies will typically have more shareholders, who are likely
to have less involvement in running the business and therefore be more vulnerable
to misbehaviour by the company’s executives. The larger company may need to
raise more capital from the public, may need a more professional board and more
board accountability and so on. The smaller company, by contrast, is likely to have
fewer shareholders and be run more informally. Too much regulation can be more
burdensome. There may well be no real ‘separation of ownership and control’, so
that its owners – shareholders – will also be its directors and managers and will be
in charge of managing the company on a daily basis. It will more often encounter
disputes between majority and minority shareholders and will therefore need better
minority protection. Insolvency will be a greater risk, requiring robust creditor
protection and insolvency procedures.
A good answer would then turn to consider whether UK company law reflects these
differences, with rules that treat large and small companies differently. A good
answer would probably limit itself to picking just some areas of company law as
examples. Examples of areas where the law does seem to distinguish between
different-sized companies include rules on accounts/audit and rules on shareholder
disputes that treat ‘quasi-partnerships’ differently. Elsewhere, company law offers
different rules for private and for public companies and these differences also tend
to correspond to companies of different sizes. So, there are different rules about
capital maintenance, raising capital, about company secretaries, number of
directors, availability of written resolutions, about directors authorising conflicted
transactions, and so on. And the model articles now distinguish between private
and public companies. Some of these differences are quite longstanding, but they
were added to by the Companies Act 2006 and its emphasis on ‘Think Small First’.
Finally, ‘listed companies’ are subject to a separate group of rules because of their
listed status.
However, there are lots of examples of where the law treats private public and
private companies alike. Generally, for example, the duties of directors do not differ
according to the size of the company. The model articles still assume a distinction
between owners and directors and company law generally allocates different
decision-making powers either to shareholders or to directors.

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 Examiners’ reports 2016

Poor answers to this question…

often failed to answer directly the question asked, perhaps addressing only the
small company or (less often) only the large company. Other poor answers tried to
address both types of company but offered too few examples of how company law
does, or does not, distinguish between differently sized companies. It is acceptable
to be selective in the areas of company law one draws on for this question but an
essay will be considered as demonstrating insufficient knowledge, if its mentions
only one or two areas of law to demonstrate how UK law deals with differently sized
companies.
Question 2
‘The UK has been very successful in addressing the composition of boards of
directors, including the proportion of independent non-executive directors,
and the proportion of female directors. However, it has entirely failed to
control the excessive pay that directors award themselves.’
Discuss.
General remarks
This question addresses issues usually discussed under the rubric of ‘corporate
governance’. It required, however, students to look at a number of very specific
issues within this broad topic. The first concerns the composition of boards, and
specifically the proportion of independent non-executive directors (‘NEDs’), and of
female directors. The second is the control of directors’ pay. The question is drafted
as a couple of arguments/claims about these issues – that the UK has dealt well
with the composition issue but has failed to deal with the pay issue.
While there are arguably no ‘right answers’ here – so that one very good essay
might strongly agree with these claims and another equally good essay might just
as strongly disagree with them – it is good for a student to try to reach a conclusion
as to whether on balance, he or she agrees or disagrees. It gives a sense of
‘closure’ to the essay.
Law cases, reports and other references the examiners would expect you to
use
On the proportion of NEDs, the UK Corporate Governance Code and its
predecessors. On ‘Gender Diversity’, the work of the Davies Review. On directors’
pay, the ‘Say on Pay’ rules in the Business, Enterprise and Regulatory Reform Act
2013; the Stewardship Code (2012).
Common errors
The most common error is one that has been emphasised in previous years’
examiners’ reports: too many students appear to have prepared a ‘standard’ essay
on corporate governance, which simply recites the history of the UK Corporate
Governance Code. Questions on the topic of corporate governance, such as this
one, tend to be much more focused, requiring discussion of a specific aspect or
issue(s) – in this case, the two issues identified above, dealing with the composition
of boards, and the control of directors’ pay.
A good answer to this question would…
focus on the question asked, breaking it down into the separate issues it raises. It
would describe how the UK has dealt with board composition. It might note that
company law itself does not address this issue. However, under successive
corporate governance codes and, now in the UK Corporate Governance Code
(2014), it recommends that at least half the board of listed companies (excluding
the chairman) be independent NEDs. A good answer would explain this is only a
recommendation of good practice, is ‘enforced’ only through the ‘comply or
explain’ mechanism but seems to be largely observed by listed companies.

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It would then turn to the issue of gender equality. It would note the historical gender
imbalance on UK boards and the creation of the Davies Review to examine this. It
would note the recommendations of that Review, its target of 25 per cent female
board membership by 2015, the changes to the UK Corporate Governance Code in
support of that target and the target’s apparent achievement.
It would then address the issue of directors’ pay. This is a large topic. It might note
attempts to deal with pay through the creation of board ‘remuneration committees’
and evidence that such committees have tended to increase, rather the decrease,
pay levels. It would note more recent efforts to encourage shareholders to play a
greater role, through ‘Say on Pay’ rules and generally encouraging more
shareholder engagement, e.g. through the Stewardship Code. Finally, a good
answer would offer some brief conclusion.
As with any issues within the topic of corporate governance, the literature here is
voluminous. A good answer would refer to some relevant literature beyond the
subject guide and main textbook. Moreover, since corporate governance focuses on
larger companies and policy issues that are ‘in the public eye’, a good answer might
include relevant news stories reported in the business/financial press.
Poor answers to this question…
tended simply to set out a discussion of the history of the Combined Code/UK
Corporate Governance Code, with little attempt to examine the specific issues
noted above. It is worth emphasising once again that questions on the exam paper
are very carefully drafted, so as to focus on particular and specific, issues. Answers
must address those; pre-prepared essays that give an answer to a different
question from the one asked will get little credit.
Question 3
Explain the legal effect of:
a) provisions in a company’s articles of association which restrict the
objects of the company; and
b) provisions in a company’s articles of association which limit the
authority of its directors.
General remarks
This addressed a topic that has come up often before, namely the capacity of the
company (ultra vires) and the authority of directors. In the past, it has been asked
as a problem question and students have often answered such problem questions
well.
However, here the topic was addressed as an essay question. Changing the ‘angle’
of the question in this way did not significantly change the legal knowledge required
to answer it. However, it did help to differentiate between those good students who
clearly understood the legal rules and principles relating to this topic and could use
them to answer an essay-style question and those who ‘learnt’ the rules but lacked
real understanding of them.
Law cases, reports and other references the examiners would expect you to
use
For part (a): ss.31 and 39 CA 2006. Case law on the ultra vires doctrine (e.g.
Ashbury Carriage Co v Riche; Bell Houses; Re Introductions); ss.33 and 171 CA
2006.
For part (b): the rules on directors’ authority; ss.40 and 41 CA 2006; Freeman and
Lockyer v Buckhurst Properties; Hely Hutchinson v Brayhead Ltd; ss.33 and 171
CA 2006.

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 Examiners’ reports 2016

Common errors
Unfortunately, many answers either failed to address the question, or else showed
a lot of confusion about the topic of ultra vires and directors’ authority and the
relevance of provisions in the articles in respect of those topics. Quite a lot of
answers seemed to focus on the reference to ‘provisions in the articles’ and wrote
an answer just about the effect of the articles, in general, without mentioning the
company’s objects (and the ultra vires doctrine) or directors’ authority.
Even where an essay did focus on questions of a company’s objects, and directors’
authority, answers tended to discuss only what is sometimes called the ‘external
issue’, that is the impact of articles on a contract entered into with an outsider in
breach of such a articles (see below). However, a full answer requires discussion
not just of this external issue but also of the ‘internal’ consequences of such articles
– their relevance to personal actions brought to enforce the articles under s.33 and
their relevance to the directors’ duty under s.171 (to observe the terms of the
constitution). See below.
A good answer to this question would…
take each part of the question in turn. Starting with a), a constitutional provision
restricting the company’s objects would displace the default rule that otherwise
applies under s.31, giving a company unlimited capacity. So, a restriction on objects
would restrict the capacity of the company. But so what? Historically, such a
restriction would have meant that transactions by the company beyond that capacity
would have been ultra vires and thus ‘void’ and unenforceable: Ashbury, Bell
Houses, Introductions, etc. Now, however, this ‘external’ consequence of a
company acting beyond a restriction on its objects has been abolished: s.39. So,
externally, a restriction on the company’s objects has no legal effect.
However, a restriction on objects continues to have ‘internal’ legal consequences. If
a shareholder learns her company is intending to enter into a contract beyond the
objects, but has not yet done so, she can bring a personal action against the
company, under s.33, to enforce the articles and stop the company entering into the
contract in the future.
Moreover, even if the directors have already made the company enter into such a
contract, so that it is now too late for the shareholder to use s.33 to prevent the
company doing so, still the directors will thereby have breached their duties under
s.171. It would, however, be for the company to enforce such a breach. While a
derivative action might be brought, it is probably unlikely a shareholder would be
given permission to continue such an action.
So, to summarise, a good answer would demonstrate that a provision in the articles
restricting the company’s objects now has little ‘external’ effect (on contracts
already entered into with third parties) but still has lots of ‘internal’ effects.
A good answer would then turn to part b), limits on the authority of directors. It
would show how such a limit again has little external effect (because of s.40, which
allows a third party to enforce a contract, even if entered into in breach of a
constitutional limit on the directors’ authority). However, such a limit has the same
internal effects as discussed above. A shareholder who learns that directors intend
to act beyond their authority, as limited by the constitution, could use s.33 to
prevent them doing so in the future, provided she acts before any contract has been
entered into by the company. The directors’ acting beyond a constitutional limit on
their authority puts them in breach of their duties under s.171 CA 2006 (a duty owed
to, and enforceable by, the company itself).

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Poor answers to this question…
made the mistakes noted above under ‘common errors’. So, many addressed only
the ‘external’ effects of relevant provisions in the articles, without considering the
internal effects.
Student extract
(a) Pursuant with s.32 of the Companies Act, the company’s objects are
unrestricted unless it chooses to specify as object in its articles of
association. In the latter case, the company will be entitled to perform only
those types of activities which are ascertained in its articles. Consequently, if
a company chooses to changes [sic] it without introducing amendments to
the articles of association, this may be a breach of the company’s articles as
‘ultra vires’ and a violation of the terms upon which its shareholders set up
the business.
However, with respect to the transactions with third parties, the latter will be
protected by s39 of the Companies Act . . . the validity of an act done by a
company shall not be called into question on the ground of lack of capacity by
reason of anything in the company’s constitution.
(b) Likewise, any limitation of authority of directors does not affect the validity
of transactions with a person who is acting in good faith. Pursuant to s.40 of
the Companies Act the powers of the directors to act without such limitations
as a rebuttable presumption in favour of such a person who is not bound to
enquire on directors powers. What is more, he shall not be regarded as
acting in bad faith by reason only of his knowing that such an act is beyond
the powers under the company’s constitution. Thus the standard is very high
with exception of those cases when a party to a transaction is a director or
any person connected to him as ascertained in s41 Companies Act.
With respect to members of the company, they however have the right to
bring proceedings to restrain the doing of such action. In addition, any
director who acts beyond the limits breaches his duty to act within powers,
specified in s171 Companies Act.
Comments on extract
Interpretation of the question: this was OK – the answer suggested the student
understood the question being asked.
Relevance of the answer to the question: again, OK, the answer did focus on the
question asked and the student divided their answer clearly between the two halves
of the question.
Substantive knowledge: rather limited. The student had the basics, in terms of the
two main provisions that are relevant, namely ss.39 and 40 CA 2006. However, the
answer starts a little badly by mentioning the wrong provision (s.32, instead of s.31).
Moreover, in relation to the first part of the answer, on ultra vires/objects clauses,
the answer addresses only the ‘external’ effects of a restriction on the company’s
objects clauses. It is very short, and says nothing about the internal effects – it does
not consider whether/when shareholders can enforce such a provision under s.33,
nor the relevance (of a restriction on the company’s objects) to the directors’ duties
under s.171. For part b), the answer is longer, and shows a little more knowledge,
picking up on the right of shareholders to enforce the provision (but again not
actually mentioning s.33) and noting s.171.
Use of authorities: none included – so again rather weak here.
Articulation of argument: it flowed along quite coherently but the essay was very
short and so points were not really fully/clearly explained.

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 Examiners’ reports 2016

Accuracy of information: generally what was said was accurate, apart from the
mistake over a section number (31/32).
Clarity of expression: OK.
Legibility: good.
Question 4
‘A well-drafted duty of care and skill for directors should spell out clearly the
activities which directors must undertake in order to contribute towards the
running of the company, but should also ensure that directors are free to take
reasonable commercial risks. Unfortunately, section 174 of the Companies
Act 2006 achieves neither of these goals.’
Discuss.
General remarks
This question focused on the director’s duty of care and skill. It had two parts to it.
The first part was ‘normative’, asking students to discuss what a good duty of care
and skill would look like. The second part was ‘descriptive’, asking whether the
current version of the duty of care and skill, which is found in s.174 CA 2006,
achieves certain stated goals.
Law cases, reports and other references the examiners would expect you to
use
Some of the literature discussing what the purpose of the duty of care and skill is
and what goals a good duty of care and skill should try to achieve. Section 174 CA
2006. Relevant case law interpreting s.174, such as Re City Equitable Fire
Insurance Co Ltd; Dorchester Finance; ASIC v Healey; Lexi Holdings (in liq) v
Luqman; Re Barings (No 5).
Common errors
Many answers wrote generally about all the duties of directors, with only a small
part of the answer devoted to the duty of care and skill. But the question was clearly
focused on just that duty, making large parts of such general essays irrelevant.
Some answers that did focus just on the duty of care and skill addressed either only
the first (normative) part of the essay, or only the second (descriptive) part. Again,
the question clearly had two parts – to get a good mark, students had to address
both.
A good answer to this question would…
begin by noting how the question contains two parts and then address each in turn.
So, dealing with the first part, what should a good duty of care and skill for directors
look like? In particular should it, as the question suggests, ‘spell out clearly the
activities a director should undertake’ and also ‘ensure directors are free to take
commercial risks’? As to the first point, the idea here is that the duty of care and
skill should set out what activities a director is supposed to be doing – what her job
is within the company. This sounds sensible at first – it would let directors know
what contribution they are supposed to make to run the company and allow action
to be taken where a director fails to do what’s expected of her. It would stop
directors being entirely ‘passive’ or ‘sleeping’. However, it does raise some
difficulties. First, no duty, surely, can spell out in enormous detail everything a
director must do, day in and day out. Secondly, some people might argue that there
is no agreement on what the job of a director actually is. Thirdly, surely the role of a
director differs from company to company (directors of large PLCs are surely
expected to play a different role than directors of small private companies) and from
director to director (an executive has a different role than a non-executive, say).

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As to the second point (free to take commercial risks), this raises a concern that
running a successful company requires risk taking. If directors know they may be
held liable when reasonable risk taking goes wrong, then they will either refuse to
become directors, or they will tend to ‘play safe’, avoid reasonable risk taking in
case they are held to have breached their duty of care and, as a result, companies
will ‘stagnate’ and become less successful. Added to this, there is also concern that
judges are not themselves business people and so struggle to work out if directors
were acting reasonably or recklessly in taking some commercial risk. Again,
different essays may offer different points of view on these issues but a good essay
needs to say something about how readily directors should be held liable when their
commercial decisions turn out badly.
A good answer would then turn to s.174 itself. It might note that it is, as all the
duties are, quite short and brief, in its content. It certainly does not spell out what
activities are expected of a director. It says only that directors must ‘exercise
reasonable care, skill and diligence’ (before going on to spell out that this has an
‘objective’ and a ‘subjective’ element). But the essential point is that the section
leaves it up to judges to decide, as each new case arises, what is reasonable.
Perhaps this brevity is inevitable, for the reasons mentioned above. A good answer
would note that, while s.174 does not spell out what a director must do, there are
some cases that help a little. So, although older cases such as Re City Equitable
did suggest that an inactive director could not be held liable, more recent cases,
such as Lexi, and Re Barings, (and the Australian decision of ASIC v Healey), have
decided that every director must, at least, contribute to the ‘governance’ of the
company (meaning participate in board meetings, monitor to some extent the
conduct of their fellow directors and so on).
With regard to risk taking, s.174 is again silent. UK law does not have a ‘business
judgment rule’ that protects directors when their commercially risky decisions turn
out badly. So, it might be argued that s.174 does not really ensure that directors are
free to take reasonable commercial risks. But an excellent answer might, at this
point, look beyond s.174 and note how judges in the UK often say that they do not
want to second guess management decisions (see e.g. Carlen v Drury). Bad
decisions can be ratified by shareholders. It’s difficult to sue for breaches of duty –
derivative claims are not easy to bring in the UK, for example.
Poor answers to this question…
make the mistakes noted above. Some failed to focus on s.174 at all. Others did not
address both parts of the question.
Student extract
A director must exercise reasonable care, skill and diligence under s.174
Companies Act 2006. The standards required are the general knowledge,
skill and experience that may reasonably be expected of a person and that
the director actually has. S.174(2)(a) sets an objective minimum standard of
a reasonably diligent person, who has taken on the office of director, taking
into account the functions undertaken. S.174(2)(b) sets a subjective standard
in relation to the personal attributes of the director, which may raise the
objective standard.
These dual objective and subjective tests are applied in Norman v Theodore
Goddard and Re D’Jan of London. Also in Re Barings Plc (No 5) it was held
that all directors, both collectively and individually, had a continuing duty to
maintain sufficient knowledge of the company’s business to enable them to
discharge their duties and delegating functions and powers to those below
them in the management chain does not absolve them to supervise the
discharge of the delegated function. …

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 Examiners’ reports 2016

The question is whether the statute spells out clearly the activities directors
must undertake... but enough managerial freedom remains to discharge their
duties and be able to take reasonable commercial risks. Some critics (like
Donovan) suggested that s.174 actually does NOT spell out clearly certain
requirements towards directors, like the requirement of continuous attention
to company affairs or any reasonable objective level of competence. Scott
has even argued we should abandon the duty of care …
We may state that directors, based only on s.174 are quite free to take
whatever decisions they see fit. The relief and guidance comes rather from
common law.
[The essay then goes on to note how pre-Act cases remain relevant in interpreting
the statutory provisions and mentions how cases like Lexi are laying down minimum
standards of oversight. Finally, the essay concluded.]
Comments on extract
Interpretation of the question: this was OK but the essay chose to put a lot more
emphasis on explaining what the law currently is, rather than what it ought to be.
Relevance of the answer to the question: in parts very good – especially in
describing the law as it currently stands, the essay was well-focused. However, as
noted already, the essay focused very much on describing and explaining what the
law currently is and needed to say a bit more about the first part of the question –
what should a duty of care and skill do. We did not really get enough argument or
analysis about why it might be necessary/good to ensure directors are free to take
risks, or how far it is feasible to spell out the activities expected of directors.
Substantive knowledge: this was good in terms of describing and explaining s.174
itself. It showed a clear understanding of the objective/subjective distinction, and the
relevance of case law.
Use of authorities: this was very good.
Articulation of argument: again, good – it was a well-written and well-argued
essay.
Accuracy of information: very good.
Clarity of expression: OK.
Legibility: good.

PART B
Question 5
In 2012, Avril and Bernice were appointed directors of Seepak Plc, which
makes canoes. In addition, David attended all board meetings of Seepak from
January 2014 onwards, but he was never appointed a director.
In August 2015, Seepak was approached by Fiona. She had just invented a
revolutionary new design of canoe, and offered to sell Seepak an exclusive
licence to make and sell her canoes. Avril and Bernice felt this would be too
risky, and decided Seepak would not buy Fiona’s invention from her.
David felt Avril and Bernice were being too cautious. Without telling them, he
decided he would set up his own business making Fiona’s canoes. In
September 2015, David rented business premises. In October he told Avril he
would no longer have any involvement with Seepak, and thereafter he
stopped attending Seepak’s board meetings. In November, he bought a

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licence from Fiona to make her canoes. In December he contacted shops that
sell canoes (whose owners he had often met whilst he was involved with
Seepak) to obtain orders for the new canoe.
In February 2016, Seepak itself purchased, from Bernice’s husband, Henry, a
new machine for making canoes. The purchase price was £101,000. However,
by March 2016 it was clear that David’s new canoe business was a huge
success, and that Seepak’s own sales had fallen massively. Because of the
decline in its sales, Seepak no longer needs the new machine.
Seepak has now been taken over by another company and has an entirely
new board of directors.
Advise the new board whether Seepak could take any action in respect of
these events.
General remarks
This is a question on directors’ duties. It mainly requires students to identify which
particular duties might be being breached and then to apply the relevant provisions
from CA 2006 to the directors’ conduct. But since those statutory provisions must
be interpreted in the light of the older, ‘pre-Act’, case law, the question requires
students to demonstrate good knowledge of relevant cases.
Law cases, reports and other references the examiners would expect you to
use
Sections 170–177 CA 2006, s.190 CA 2006; relevant case law interpreting these
provisions, e.g. Secretary of State for Trade and Industry v Hollier and Re Gemma
Ltd; Regal Hastings, IDC v Cooley, Bhullar v Bhullar, British Midland Tool,
Thermascan Ltd v Norman.
Common errors
Most students noted that David’s non-appointment as a director raised a difficulty,
but many argued that he would be treated as a shadow director. This was a good
effort but it is much more likely that he would be a de facto director, rather than a
shadow. Most students treated David’s competition with Seepak as one possible
breach of duty. However, David’s actions continue over a number of months, and
involve a number of different potential conflicts of interest. An excellent answer
would break these down individually and consider each in turn – see below.
A good answer to this question would…
take the different directors in turn and examine each one’s potential liability. Starting
with David, the first point to decide is whether he will be subject to any directors’
duties at all. Although not appointed a director, he might be a de facto director. He
would be so if, under s.250, he were ‘occupying the position of a director’. Explain
how, according to SS for Trade and Industry v Hollier and Re Gemma Ltd, the
essence of occupying the position of a director seems to be attendance at board
meetings, with the same rights of decision-making as other directors. Then apply to
facts of question. Explain how, if he is a de facto director, according to s.250, he will
be treated as a director like any other and thus subject to the same legal duties as
other, legal directors.
A good answer would then address David’s liability for breach of duty and,
specifically, breach of s.175. It would summarise this section and identify the
relevant case law that interprets it, such as Regal Hastings, IDC v Cooley, Bhullar v
Bhullar, etc. A very good answer would note that David’s conduct can be broken
down into different stages, each of which raises different issues.
a) First, his initial decision to set up in competition with Seepak. Done in
secret and while still a director but merely deciding to do so is likely no
breach of duty.

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 Examiners’ reports 2016

b) However, taking a positive step, such as renting premises, probably does

breach s.175 – British Midland Tool. Once he starts taking steps to further
his competitive intentions, he should disclose those intentions to the board,
or ‘resign’. He seems to do neither until November, when he stops
attending board meetings.
c) Purchase of Fiona’s licence probably involves the taking of a corporate
opportunity. Although this happens after he ceases to be director, note
s.170(2) and IDC v Cooley. What matters is not when he exploits this
opportunity but when he learned of it.
d) Finally, his actions in contacting shops. Another possible breach of s.175
but again this occurs ‘post-resignation’. Cases such as Thermascan Ltd v
Norman suggest that, if the knowledge David is using in contacting the
shops is his ‘general fund of knowledge’ developed while a director of
Seepak, it will not amount to a breach of s.175, but it would do so if he were
exploiting confidential information or trade secrets.
Avril and Bernice might both be liable under s.174, in respect of their original
decision not to purchase Fiona’s new canoe design. A good answer would note
some of the difficulties in establishing a breach of this duty of care and skill,
especially in respect of what may be mere commercial judgements.
Finally, good answers would address the purchase of the new machine. This falls
not within s.175 but, because of s.175(3), within s.177, since it involves ‘a
transaction with the company’. Bernice should declare to the board her interest in
this contract to buy the machine (it is with her husband), although under s.177(6)
such a declaration is not necessary if the board already does know, or should know,
of Bernice’s interest. However, since the price of the machine is £100,000 or more
and, since it is with someone who is connected to a director (Henry, as Bernice’s
spouse, is connected with Bernice according to s.252), shareholder approval for the
purchase is also necessary. A good answer would note the consequences of a
failure to get such approval.
Poor answers to this question…
tended simply to miss out on the level of detail noted above. So, for this question,
few answers were ‘irrelevant’ (as was often the case for essays) and few answers
were ‘wrong’. But weaker answers tended, for example, just to ask whether
anything done by David might breach s.175, rather than breaking down his conduct
into its different monthly events and treating each in turn.
Poorer answers also tended to discuss little relevant case law. Section 175 is a
provision where there is a great deal of case law to help us understand and apply
the very broad wording of s.175 itself. Students must demonstrate knowledge of
that to get a good mark.
Question 6
a) Sarah married John in 2000. By 2009, Sarah had decided that she no
longer loved John, and might well divorce him in the future. In 2010,
Sarah inherited an office block in London worth £50 million. She
immediately transferred both her legal and her beneficial interest in
the office block to a company, Hidem Ltd. Sarah had formed Hidem
in 1999 but it had never traded. It had issued one share, owned by
Sarah’s sister, Belinda. Belinda was also the only director of Hidem.
In March 2016, Sarah finally began divorce proceedings against
John, and John now wishes to claim financial relief from Sarah.
Assume that the amount of financial relief will depend on Sarah’s

11
 wealth. Advise John whether, as a matter of company law, he will be
permitted to lift the corporate veil and treat Sarah as if she still
owned the office block.
a) Desparate Ltd has been trading at a loss for many months. It has one
director, Ollie. In January 2016, Ollie persuaded George to lend
£50,000 to Desparate. Ollie tells George: ‘Don’t worry about getting
your money back. I personally promise that Desparate is financially
secure’. In April 2016, winding-up proceedings are begun against
Desparate. Its liabilities massively exceed its assets. George has
not been paid.
Advise Ollie whether he will be liable:
(a) personally to George; and
(b) to contribute to the assets of the company.
General remarks
The first part of this question focused on the separate personality of companies and
the doctrine of ‘veil lifting’. The second part focused on the liability of directors in tort
and under the Insolvency Act 1986. The question was generally well answered, with
students usually providing a solid account of the position in relation to Desparate
but performing a little less strongly in respect of the veil lifting issues.
Law cases, reports and other references the examiners would expect you to
use
For part (a) relevant cases on the nature of a company’s separate legal personality:
Salomon v Salomon; the doctrine of veil lifting/piercing and relevant case law
exploring the limits of that doctrine, such as Woolfson v Strathclyde Regional
Council, Adams v Cape Industries, Petrodel Resources Ltd v Prest and VTB Capital
v Nutritek International.
For part (b) tortious actions for negligent or fraudulent misstatement: Williams v
Natural Life Health Foods Ltd; actions under ss.213 and 214 IA 1986; Re Produce
Marketing.
Common errors
Some answers set out a general discussion of veil piercing, without really applying
that to the facts of the questions – especially on part (a) (Sarah and John). Many
essays argued that, as occurred in Prest, the company might be treated as holding
the property on trust for Sarah – when the facts of this question seemed very clearly
to prevent the court reaching a similar conclusion. On the second part of the
question (Desparate): failing to deal with both the ‘personal liability’ to George and
the liability to contribute to the assets of the company. They are separate parts of
the question, raising different points of law.
A good answer to this question would…
a) in respect of Hidem, note the general principle of separate legal personality, give
some authority in support of that (e.g. Salomon) and then proceed quickly to focus
on the grounds on which the veil might be ‘lifted’ and Hidem’s ownership treated as
that of Sarah. It would explore the grounds on which veil lifting is possible – drawing
on the most important cases such as Adams v Cape or, more recently, Prest. It
would focus on the ‘sham/façade’ principle, which has emerged as the ‘one true
ground’ for veil lifting. A really good answer would be very clear in identifying now,
after Adams, and Prest, what the courts seem to be looking for when deciding
whether a company is a mere sham, in terms of ‘evasion of a pre-existing
obligation’. A good answer would explain what this means and then apply it to the
facts of the question. Does Sarah use Hidem to evade a pre-existing obligation to
John? When she transfers ownership of the property to H, does Sarah, at that
moment, have a pre-existing obligation to John she is seeking to evade. There is

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 Examiners’ reports 2016

perhaps no right answer to this. She is married to him, she anticipates divorcing
him, she must know that if she follows through on those things, she will have to pay
him financial relief. But on the other hand, at the moment she transfers the office
block, such proceedings for divorce and financial relief are merely ‘in the future’. So
it might be argued both ways.
A very good answer would note also some of the other conditions for a company to
be regarded as a façade. It must also be under the control of Sarah – is Hidem?
And lifting the veil must be a ‘remedy of last resort’, in the sense that there must be
no other legal means of securing John the relief he seeks. It is difficult to see what
other means John has of overcoming Sarah’s hiding of the property inside the
company.
Finally, a good answer would note that, for a company to be a façade, it is enough
that it is now being used to evade an existing obligation by someone in control; it
does not need to have been created for that purpose. That Hidem may be have
been formed initially for a lawful purpose does not preclude its now being
considered a façade.
b) This question raises two distinct grounds on which a director might be held
personally liable. The first is through an action in tort – here, most likely, the tort of
negligent misstatement. A good answer would explain how such an action might be
relevant but note crucially, following Natural Life Health Products, that for Ollie to be
liable, he must have assumed ‘personal responsibility’ for the accuracy of the
statement he made. This is the crucial company law point that we want to see
students grasp. Applying that to the facts, the issue is whether the courts would
treat Ollie’s statement ‘I personally promise …’ as an assumption of personal
responsibility. Again, it can probably be argued both ways. A good answer might
also note, for the sake of completeness, than an action for fraudulent
misrepresentation (deceit) might be an alternative possibility for suing Ollie.
Finally, a good answer would look at the second basis for holding Ollie personally
liable, namely a liability to contribute to the assets of the company. The relevant
actions here are those under ss.213 and 214 Insolvency Act 1986. A good answer
would note relevant case law on these provisions, such as Re Produce Marketing
on s.214.
Poor answers to this question…
failed to consider all aspects of the two halves of the question. Poorer answers on
part (a) (veil lifting) tended to churn out a general description of the law on veil
lifting, without applying it to, and focusing upon, the specific facts of the questions.
Some weak answers did not show any awareness of the more recent Supreme
Court decisions, such as Prest. Although Prest arguably just confirms the thrust of
the decision in Adams v Cape, with its emphasis on using a company to evade a
pre-existing obligation, that confirmation by a Supreme Court decision is significant
and answers should mention it.
Poorer answers on part (b) (Desparate Ltd) often only chose to address one or
other of the aspects of personal liability the question raised (even though these
were clearly separated out in the question). So, many answers addressed either
personal liability to George, or liability to contribute to the company’s assets (under
IA 1986) but not both.
Student extract
It must be assessed if John (hereafter ‘J’) will be able to lift the corporate veil
and claim money from Hidem (‘H’). The general rule is laid down in Salomon
v Salomon: a company as its own legal personality, can own property, sue
and be sued. Thus applying the general rule, H will not be liable to J for any

13
 claim he can bring forward. See also cases such as Lee and Macaura.
However, in special circumstances, the courts tend to lift the veil and extend
liability to individuals beyond the company.
Lifting the veil is performed by courts either by using judicial veil lifting, or on
statutory provisions e.g. ss.213 and 214 Insolvency Act. The statutory
provisions are not relevant here.
Considering judicial lifting, it was allowed where the company was a mere
façade or front. The case of Jones v Lipman, hiding existing obligation in a
company amounted to a façade and case of Gilford, same principle was
emphasised. The case of Prest v Petrodel clarified application of this
principle.
[The essay then considered, in some detail, the pre-history to Prest,
mentioning DHN, and then Strathclyde, before turning to Adams and
continuing.] However, in case of Adams v Cape, this clarified the law and
summarised the grounds as three categories: 1) single economic unit 2)
façade 3) agency. Considering the ground of single economic unit, there is no
document or statute to interpret here, so this exception will not apply. Agency
ground requires express authority manifested in a document, which is also
not present in this situation, so this will also not apply.
[The answer then continued to the ‘façade’ ground, and carefully addressed
the importance of ‘motive’ in Adams, and the requirement that S must be
using the company to evade an existing obligation and applied all this to the
facts of the question. In a similarly thorough and detailed way, the answer
turned to part (b). In relation to G’s personal liability to Ollie, the relevance of
an action for negligent misstatement was noted, and the essay continued.]
Williams v NLHF provides that 1) must establish assumption of responsibility
and 2) reasonable reliance. Assumption of responsibility is established here.
G ‘personally promises’ which indicates the assumption of personal
responsibility and a personal representation made by G to O, as was required
by Williams. And it could be argued it is reasonable for O to rely on that
personal representation by G.
Comments on extract
Generally, this was a first class answer. It was clearly structured and argued, it
focused precisely on the issues raised by the question. It set out the relevant rules
very clearly, drew on a huge amount of case law to support the analysis and always
applied the relevant rules directly to the facts of the question.
Substantive knowledge: was excellent. This essay was written by someone who
clearly understood the rules, grasped the fine distinctions those rules sometimes
make (such as the precise meaning of ‘evading an existing obligation’ or
‘assumption of personal responsibility’). It is these details of the legal rules that a
problem question is carefully drafted to test. This essay showed the student knew
the relevant law in such detail.
Use of authorities: excellent: the student cited a very large number of authorities,
both older ones and, crucially, the most recent important decisions.
Articulation of argument: very clear indeed. Someone who did not already know
this area of law could have easily followed this student’s analysis.
Accuracy of information: very good.
Clarity of expression: excellent.
Legibility: good.

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 Examiners’ reports 2016

Question 7
In January 2016, the directors of Superbank Plc decided that Superbank
should acquire Readyloans Ltd. Superbank’s directors called a meeting of
Superbank’s shareholders to approve the proposed acquisition.
At the meeting, a number of shareholders, including Arthur, strongly opposed
the acquisition, claiming the price being paid for Readyloans was too high.
The directors reassured the shareholders that they had investigated
Readyloans very carefully, and that it was worth far more than the price
Superbank was paying to acquire it. A majority of shareholders then voted to
approve the purchase, although a substantial number of shareholders,
including Arthur, voted against. The directors, who together own 10% of
Superbank’s shares, voted to approve the purchase.
By May 2016 it was clear that Readyloans was worth much less than the price
Superbank paid to acquire it. Superbank’s shares have fallen massively in
value. The directors of Superbank accept they were negligent in failing to
appreciate the true value of Readyloans.
Advise Arthur whether:
a) he could bring a personal action against the directors for the fall in
the value of his shares; and
b) if he began a derivative claim against the directors, he would be
likely to be given permission to continue that claim.
General remarks
A two-part question that addressed two different legal issues: 1) whether a
shareholder can bring a personal action against a director for a drop in the value of
his shares; and 2) whether a shareholder can get permission to continue a
derivative claim. Generally, students tended to answer part (b) better than part (a).
Many assumed that part (a) was about a derivative claim too; but a derivative claim
is not a personal action against a director. And many wrongly identified what
personal action could be brought (see below).
Law cases, reports and other references the examiners would expect you to
use
For part (a) (the ‘personal action’) – s.170(1) CA 2006; Coleman v Myers; Allen v
Hyatt; Platt v Platt; Peskin v Anderson; Sharp v Blank; rules on ‘reflective loss’ e.g.
Prudential Assurance; Johnson v Gore Wood.
For part (b) (permission to continue the derivative claim) – Part 11 Companies Act
2006; the need to gain the court’s permission to continue the claim under s.261; the
criteria for granting permission under s.263(2) and (3); the case law interpreting
those statutory criteria, e.g. Iesini v Westrip Holdings Ltd [2009] EWHC 2526 (Ch);
Franbar Holdings v Patel [2008] BCC 885; Kleanthous v Paphitis [2011] EWHC
2287; Mission Capital Plc v Sinclair [2008] BCC 866; Wishart v Castlecroft
Securities Ltd [2010] BCC 161.
Common errors
On part (a), a failure to understand what is meant by a ‘personal action against
directors’. This is not a derivative claim (which is brought for the benefit of the
company itself). Nor is it, strictly speaking, a claim under say s.994 CA 2006, or a
claim under s.33 CA 2006. Although both of those are indeed ‘personal actions’,
they are not brought against a director(s). Section 994 actions are brought in
respect of the company (not against anyone) and s.33 actions are brought against
the company itself, or sometimes against shareholders. In fact, credit was given to

15
students who mentioned such claims but less than for those who considered the
true personal action against a director (see below).
A good answer to this question would…
deal with each part of the question in turn. On part (a), a good answer might begin
by noting that shareholders cannot normally sue directors in a personal action. This
is for two reasons. First, although directors do owe duties, they owe them to the
company, not to shareholders personally (see now s.170(1)). Secondly, if directors
breach their duties, they harm the company and typically any loss suffered by
shareholders is only a consequence, or a ‘reflection’, of the loss suffered by the
company. And shareholders cannot sue for such reflective loss – Prudential;
Johnson v Gore Wood.
So, if Arthur is to sue the directors, personally, here, he must overcome both these
problems. First, he must establish that some duty owed to him personally, as a
shareholder, has been breached. A good answer would note that, although
directors do owe their duties under CA 2006 to the company alone, the law has
recognised that, in some situations and in some types of company, directors may
also owe separate duties directly to shareholders. A good answer would note the
different bases on which such ‘parallel duties’ to shareholders might arise and the
case law developing these, such as Allen v Hyatt, Platt v Platt, Peskin, and the
recent case of Sharp v Blank. Secondly, Arthur must also show that the loss he has
suffered is not merely reflective loss. It seems likely that it is. Arthur’s shares are
worth less because the company itself has been harmed by this poor transaction.
As to part (b), a good answer would explain (briefly) what a derivative claim is, and
how permission to continue such a claim must be sought (s.261). It would then
focus on the criteria that the court must apply, under s.263, in deciding whether to
grant such permission. It might note that permission must be refused if the
transaction has been authorised in advance by shareholders (s.263(3). This seems
to be the case here. So it seems quite likely the court will have to refuse Arthur
permission to continue. A good answer might note that the validity of the
authorisation does not depend on whether the directors voted in favour of it
(contrast ratifications). However, since the authorisation was procured only by the
director’s incompetent advice, that might, perhaps, lead a court to disregard it.
Given that, a good answer might note briefly some of the other criteria that would be
relevant in deciding whether to grant permission (assuming that the authorisation
was held not to be effective) and would consider some of the guiding case law,
mentioned above.
Poor answers to this question…
tended to confuse part (a) especially. There was a lack of clear understanding
about the nature of a personal action that is specifically against directors
(although, as noted, some credit was nevertheless given to students who did
discuss ‘personal actions’ under s.994 or s.33). Students did not always show
understanding or awareness of the ‘reflective loss’ principle. And they did not show
detailed or accurate knowledge of the criteria the court must apply in deciding
whether to give permission to continue a derivative claim – and especially the fact
that authorisation, if valid, is a mandatory bar that requires the court to refuse
permission.
Question 8
In 1990, Sanjay formed Tebay Ltd. Initially he owned all the company’s
shares, and was its only director. In 2013, Sanjay was 80 years old. He gave
49% of his shares in Tebay to his son, Rajesh. Rajesh was appointed a

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 Examiners’ reports 2016

director of Tebay. Sanjay agreed that although he (Sanjay) would also remain
a director, he would not interfere in the day to day running of the company.
Rajesh now has three complaints about Sanjay. First, in 2011 Sanjay took for
himself a contract that was initially offered to Tebay. By doing so, Sanjay
made a personal profit of £1 million. Second, in 2014, Sanjay paid a bribe to a
local government official to secure a contract for Wonky Ltd. Sanjay is a
director of Wonky Ltd which is unconnected to Tebay. Rajesh worries that if
this becomes public knowledge, it will reflect badly on any company that
Sanjay is involved with, including Tebay. Third, Sanjay continuously
interferes in the day to day running of Tebay.
Advise Rajesh:
a) which, if any, of these complaints about Sanjay’s behaviour would
entitle Rajesh to relief under section 994 of the Companies Act
2006; and
b) if Rajesh were entitled to relief under that provision, whether Sanjay
would be ordered to sell his shares to Rajesh, or whether Sanjay
would be ordered to buy Rajesh’s shares and, in either case, how
the price of the shares would be determined.
General remarks
This question focused specifically on one remedy minorities can use, namely s.994.
It did not, therefore, permit students to discuss other areas of minority protection,
such as ‘derivative claims’, s.122(1)(g) Insolvency Act 1986, or s.33 CA 2006. The
facts set out three very specific examples of alleged misbehaviour and required a
student to address whether those will entitle a minority to relief under s.994. The
student must, therefore, focus on those. Finally, in part (b), it requires a reasonably
detailed discussion of what remedy might be available if the claim were successful.
Law cases, reports and other references the examiners would expect you to
use
Section 994 CA 2006 and relevant case law interpreting that provision, which might
include, for example, Ebrahimi v Westbourne Galleries; O'Neill v Phillips; Re
Elgindata Ltd; Lloyd v Casey; Graham v Every; Oak Investment Partners. On the
choice of remedy and terms of valuation, relevant cases might include some of the
following: Grace v Biagioli; Re Nuneaton Borough Association Football Club Ltd; Re
Home and Office Fire Extinguishers; Irvine v Irvine; Re Addbins Ltd.
Common errors
A failure to focus on the question and to consider each of the three examples of
alleged misbehaviour which the question specifically identified. Also, a failure to
deal with the valuation of shares. Since the buy-out is used so often, it is important
to understand the rules on this. Finally, the allegation about Sanjay taking a bribe
often prompted a long discussion over whether bribe-taking is a breach of duty. But
the most relevant issue about this, here, is whether the taking of a bribe in respect
of company X can amount to unfairly prejudicial behaviour in respect of company Y.
A good answer to this question would…
take each of the two parts of the question in turn. For part (a), one could begin by
summarising s.994 itself. Do not simply copy out the section, since that wastes time
and explains nothing. Instead summarise its wording and in particular emphasise
the key requirements that must be met if a shareholder is to get relief. So, note how
the alleged misconduct must relate to ‘the way the company’s affairs are being
conducted’ or ‘an act of the company’. The key point here is that complaints must
be about company, not private, affairs. The conduct must prejudice the interests of
the member who is complaining. And this must be ‘unfair’.

17
Turning now to the complaints about Sanjay and starting with his grabbing of a
corporate opportunity, this is a likely breach of s.175 (Regal Hastings). This is
certainly conduct in the affairs of the company. And we know that breaches of duty
can amount to unfairly prejudicial conduct: Re London School of Electronics; Re
Elgindata, etc. It does not matter this occurred before Rajesh became a
shareholder: Lloyd v Casey.
The bribe: this might not be considered to be conduct in the affairs of the company,
since it primarily concerns another, separate, company in which Sanjay is involved.
There has been little case law on this element of s.994 and, apart from a few fairly
rare cases where conduct has been held to be a ‘private’ matter (e.g. Graham v
Every), the courts have tended to find that conduct complained about is to do with
the company: e.g. Oak Investment Partners. Here, it is perhaps likely the court
would conclude that this would indeed impact on Tebay.
Interfering in the running of the company: this is certainly conduct in the affairs of
the company but is it unfairly prejudicial to Rajesh’s interests? It does not breach
Rajesh’s rights. A good answer, however, would note that the courts have held that
a member’s interests go beyond his strict legal rights (Ebrahimi), at least in a quasi-
partnership. Member’s interests can include what have sometimes been called
‘legitimate expectations’, although O’Neill stressed such expectations should
normally be based on shared understandings/agreements (although these could be
very informal). A good answer would consider if Tebay is a quasi-partnership and
then ask if there are any relevant, albeit informal, understandings here that might
mean Sanjay’s constant interference is unfairly prejudicial to Rajesh’s interests.
Finally, on part (b), begin by noting that under s.996, a buy-out is the ‘default’
remedy: Grace v Biagioli. Usually the minority’s shares are purchased but not
always so and especially if the minority is clearly better able to run the company: Re
Nuneaton Borough Association Football Club Ltd and Re Home and Office Fire
Extinguishers. The valuation should be done independently and should be pro rata:
O’Neill; and Re Addbins Ltd. An excellent answer might ask whether it matters here
that Rajesh was gifted his shares.
Poor answers to this question…
tended to lack detail. So, poorer answers tended to get only the most basic points
about what must be established to succeed under s.994 and had correspondingly
little to say about whether the alleged misconduct of Sanjay would therefore suffice.
Sometimes, answers would simply omit discussion of one or two of the complaints
about Sanjay; but the question was drafted around three specific complaints,
because each raises different issues about s.994, so it is essential a student
addresses each, or her answer is incomplete. Likewise, poorer answers tended to
say little about part (b), beyond noting that a buy-out is the usual remedy that is
given.
Student extract
As to the complaints 1 and 2, Rajesh is definitely likely to get relief under
s.994 … However, as to the third complaint – Sanjay ‘agreed’ that he would
not interfere in the day to day running – this is a bit more doubtful. For this
purpose, Sanjay would have needed to sign a specific service agreement.
But still, as a shadow director, he would been allowed to give instructions.
Nevertheless, the short description ‘agreed’ sounds as if Sanjay had only
mentioned this informally (so the consequence would have been similar to
O’Neill, where an informal promise regarding remuneration could not be
enforced either).
As to the first complaint, Sanjay as a director had clearly infringed against
s.177. …As to the second complaint, (secure the contract), Sanjay may have

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 Examiners’ reports 2016

infringed against the doctrine of capital maintenance which does not allow to
give financial assistance for the acquisition of shares in his own company…
[The essay then went on to note that relief can only be given if a reasonable director
would have acted as the claimant is acting and to discuss the buy-out of the
complainant but with no authority for the rules determining how the valuation of the
shares will be arrived at.]
Comments on extract
Overall, this was unfortunately a very weak answer that failed. There was too little
relevant knowledge demonstrated and too many basic errors in the little knowledge
that was present.
Relevance of the answer to the question: the student stuck to the facts of the
question.
Substantive knowledge: this was very weak. There was no real discussion of what
the test is that needs to be satisfied under s.994, so it was difficult for the student to
examine the different complaints and show whether they were likely to satisfy s.994.
Use of authorities: again, very weak. Very few cases mentioned and the main one
that was – O’Neill – was badly misunderstood. The point of O’Neill is not that an
agreement, if it is only informal, cannot be relied on. The point is that in O’Neill,
there was no agreement, informal or otherwise: Mr Phillips, the court found, never
promised, or agreed, to keep paying O’Neill 50 per cent of profits, or to transfer to
him more shares.
Accuracy of information: again, unfortunately this was very weak. A lot of basic
errors. For example, the first complaint is, as the essay suggests, a breach of duty,
but the breach is surely of s.175, not s.177. The discussion of the second complaint
– the bribe – misses what is important about this complaint (does it really affect
Tebay?). Instead, it sees it as a breach of the capital maintenance doctrine, which is
simply erroneous. And the analysis of the third complaint looks quite wrong. It is not
the case that only formal agreements are relevant. Informal agreements (such as
that S will not interfere in the running of the company) could be taken into account,
at least if the company is a quasi-partnership.
Clarity of expression: OK.
Legibility: good.

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