GOOD FAITH

DEFINITION :
In law, the phrase “good faith” refers to a requirement to act honestly and to
keep one’s promises without taking unfair advantage of others or holding
others to an impossible standard.
Good faith is required in a wide range of situations, including contracts and
business dealings, as well as during mediation,
arbitration or settlement negotiations in a personal injury or
similar tort case. The good faith requirement also appears in business law. The
officers and directors of a corporation are obligated by their fiduciary dutiesto
act in good faith when dealing on behalf of the corporation.
Although the phrase “good faith” may mean specific things in certain
situations, most courts hold defendants to one of two separate standards
when determining whether the defendant acted in good faith or in bad faith.
The first standard is based on reasonableness. A person or company may be
liable for bad-faith dealing if they refuse to uphold their end of a contract or
other bargain for no reason or for a reason that has little to do with the actual
situation. For instance, suppose a plaintiff is injured in a car accident. His
auto insurance covers medical bills for injuries caused by car accidents, so he
files a claim with his insurance company. Instead of paying the benefits it owes
him, however, his insurance company refuses to send a check and hangs up
on the injured man whenever he calls them about it.
In this case, a court may find that the insurance company is liable for failing to
act in good faith because its actions were not reasonable.  Not only did the
company refuse to pay the benefits it owed the injured policyholder, but it also
refused to give any reason why it would not pay.
The second standard also uses reasonableness to determine whether good faith
exists, but it also asks about intent. Under this standard, a defendant may be
liable for dealing in bad faith if he did not act reasonably and if he knew or
should have known there was no reasonable basis to act the way he did.
For instance, in the example above, the insurance company was held liable for
not dealing in good faith because it refused either to pay the benefits it owed or
to explain why it would not pay them. Under this standard, the insurance
company would only be liable for dealing in bad faith if it also knew that there
was no reasonable way it could refuse to pay the injured plaintiff’s claims.
Officers and directors of a company are required to deal in good faith when
representing the company to anyone, including the company’s own
shareholders. However, shareholders who do not feel like the company’s
officers or directors are acting in good faith must face an extra obstacle when
bringing the directors or officers to court. Known as the business judgment
rule, this obstacle states that courts presume a corporation’s officers and
directors are acting in good faith, unless the plaintiff can show evidence that
indicates they are not, or unless their actions were so unreasonable that
no reasonable person would have done the same thing in that situation.

Mohd Shuaib Ishak v Celcom (Malaysia) Berhad

A commentary by Claudia Cheah on the first reported case in

Malaysia under Section 181A of the Companies Act
 
 
The case of Mohd Shuaib Ishak v Celcom (Malaysia) Berhad [2008] 1
LNS 314 is the first reported decision in Malaysia where leave was
granted to an individual shareholder to commence a statutory
derivative action.
 
A derivative action is an action to enforce the company’s rights which
is typically brought by a minority shareholder on behalf of the
company. It is a creature of equity which has just received statutory
recognition in the form of the new section 181A of the Companies
Act, 1965 ("Act"), which came into force on 15 August 2007.
 
 
FACTS
The Plaintiff, a former shareholder of Celcom (Malaysia) Berhad
("Celcom") applied for leave to sue the directors of Celcom, Telekom
Malaysia Bhd ("Telekom") which is the ultimate holding company of
Celcom, the directors of Telekom and Celcom’s independent advisor,
Alliance Investment Bank Berhad. The Plaintiff proposed to file the
action on behalf of Celcom based on the facts set out below.
 
By an Amended and Restated Supplemental Agreement ("ARSA"),
Celcom and DeTeAsia agreed that Celcom would not merge its
business or accept a significant new shareholder without the consent
of DeTeAsia, failing which Celcom would procure a Buy Out Offer for
DeTeAsia at a price of US$1.84 (approximately RM7.00) per Celcom
share owned by DeTeAsia.
 
Telekom and Telekom Enterprise (and parties acting in concert)
wished to merge Celcom’s business with Telekom’s cellular business
and to take over Celcom. In furtherance of that objective, Telekom
which has effective control of Celcom, caused Celcom to enter into an
agreement ("SPA") whereby Celcom agreed to acquire from Telekom,
100% of equity interest in TM Cellular Sdn Bhd.
 
Under the SPA, Celcom agreed to issue Celcom shares to Telekom in
satisfaction of the purchase consideration. This gave rise to an
obligation on Telekom and Telekom Enterprise as well as parties
acting in concert to extend a Mandatory General Offer ("MGO") for all
the remaining shares in Celcom. The offer price under the MGO was
RM2.75 per share. At this price, the total cost for Telekom to take
over Celcom would be RM3.67 billion.
 
The aforesaid transaction was carried out without the consent of
DeTeAsia in breach of the ARSA. Had Celcom sought the consent of
DeTeAsia, such consent may have been refused and Celcom would
then be obliged to procure a Buy Out Offer at RM7.00 per Celcom
share held by DeTeAsia. If DeTeAsia had received RM7.00 per share,
the MGO would have had to be at RM7.00 per share instead of
RM2.75 per share. This would mean that Telekom would have to pay
RM9.34 billion instead of RM3.67 billion to take over Celcom.
 
DeTeAsia brought a claim against Celcom for breach of the ARSA
and was awarded substantial damages and costs amounting to
US$232,999,745.80.
The main beneficiaries of the wrongdoings have been Telekom,
Telekom Enterprise and parties acting in concert as they succeeded
in taking over Celcom at a relatively low price and the burden to pay
DeTeAsia was passed on to Celcom. The main losers have been
Celcom, which had to pay substantial damages to DeTeAsia and the
shareholders of Celcom who should have received RM7.00 per share
instead of RM2.75 under the MGO.
 
 
FINDINGS BY THE HIGH COURT
The High Court Judge examined the concept of a ‘statutory derivative
action’ under sections 181A, 181B and 181E of the Act. After
reviewing the authorities from other common law jurisdictions which
have similar statutory provisions, the learned Judge held that the
requirements which had to be satisfied before leave is granted for the
commencement of a statutory derivative action are as follows:
 
(a) the Plaintiff must be a ‘complainant’ within the meaning of
section 181A(4);
(b) the Plaintiff must have given 30 days written notice to the
directors of his intention to apply for leave of Court under section
181A;
(c) the Plaintiff must be acting in good faith; and
(d) that it appears prima facie to be in the best interest of the
company that leave be granted.
 
The Plaintiff satisfied requirement (a) as he is a former shareholder
holding 500,000 shares in Celcom. The leave application related to
the circumstances in which the Plaintiff ceased to be a shareholder
as he had been compelled under the MGO to sell all his shares at
RM2.75 per share to Telekom.
 
The Plaintiff also satisfied requirement (b) as he had given the
requisite notice to the directors of Celcom.
 
In respect of requirement (c), the Court was satisfied that the Plaintiff
was acting in good faith as he sought to remedy what he genuinely
believed to be unlawful and illegal actions of those who have caused
Celcom to suffer loss. The Court noted that although the Plaintiff
may be acting out of self-interest to maximise the value of his shares
in Celcom, such self-interest did not mean that the Plaintiff was
acting in bad faith.
 
The Court observed that anything which benefits the company will
indirectly benefit the shareholders by increasing the share value and
that it would be difficult to imagine a situation in which a
shareholder would not have any self-interest in wanting the company
to prosecute an action which is in its interest to prosecute.
 
In respect of requirement (d), the Court took the stand that it should
not embark on substantial issues on merits at the leave stage. For
the purpose of granting leave, it is sufficient to show a prima
facie arguable case that it is in the best interest of the company to
file the proposed action. The Plaintiff need not show that the
proposed action is likely to succeed.
 
The Court held that from the evidence adduced by the Plaintiff, it
was apparent that there was a breach of fiduciary and statutory
duties by the directors of Celcom, which acted at the behest of
Telekom without any regard to the interests of Celcom. There was
also evidence which suggested that the proposed defendants had
made fraudulent and/or negligent misrepresentations and had
conspired to injure Celcom and its shareholders.
 
The Court was of the view that if the proposed action is successful,
Celcom may recover well in excess of RM1 billion in damages against
the proposed defendants, the MGO and the SPA would have to be
unwound and Celcom would be restored to its position of being an
independent company with its own successful cellular business,
instead of just being a subsidiary of Telekom. This would prima
faciesignificantly improve Celcom’s financial and business position.
 
The Court rejected the Defendant’s contention that it would not be in
the best interest of Celcom to unwind the entire transaction as it has
moved on with its corporate exercise. The Court ruled that no illegal
act can be immune from challenge merely because it has been
completed and unwinding it would be too troublesome.
 
The Court also rejected the Defendant’s contention that no appeal on
management decisions should be entertained if the directors
considered the matter and honestly decided that it would not be in
the company’s interest to commence or defend the action. The Court
held that the ‘business judgment rule’ is irrelevant in an action
involving breaches of duties by directors.
 
As the Plaintiff has satisfied all the necessary requirements, the
Court granted leave to the Plaintiff to institute the proposed action.
 
 
CONCLUSION
This case is noteworthy as the Judge has set out the requirements
that have to be fulfilled to obtain leave to commence a statutory
derivative action. It also demonstrates the Court’s readiness to
recognise the rights of individual shareholders to remedy any wrongs
done to the company. It appears that the Court is no longer loath to
interfere with a company’s internal management on the ground that
majority prevails.
 
This case certainly serves as a wake up call for directors and
majority shareholders to carefully consider how they handle a
company's affairs as their decisions can be subject to scrutiny by
minority shareholders who have now acquired a statutory right to
challenge the same in court if the requirements under section 181A
of the Act are satisfied.