Directors and Third Parties can now be made Personally Liable in Oppression Actions: How the law on Oppression has Changed in Auspicious Journey Sdn Bhd v Ebony Ritz & 5 Ors

INTRODUCTION

S346 of the Companies Act, 2016 (formerly S181 of the Companies Act, 1965), which concerns oppression actions, provides wide latitude for courts to fashion the most appropriate remedy for the oppressed shareholders.

On 09.03.2021, the Federal Court in Auspicious Journey Sdn Bhd v Ebony Ritz & 5 Ors (Civil Appeal No.: 02(f)-53-06/2019(W)), FC (“AJ v ER”) decided on the following:

“Can such remedies be extended so as to devolve liability onto parties other than the majority (or the minority if they are in control), such as directors or third parties?”

(See: paragraph 4 of AJ v ER’s Grounds of Judgment (the “GOJ”).)

THE LEAVE QUESTIONS

The following are the leave questions that were before the Federal Court:

Question 1

“Whether the principle in Abdul Manaf Mohd bin Ghows & Ors v Nusantara Timur Sdn Bhd & Ors [1997] 3 MLJ 661 (to the effect that a director is an agent of a company and is thereby not personally liable for the breaches or acts of the company) applies to proceedings under section 181 of the Companies Act, 1965 (now section 346 of the Companies Act, 2016) where the shareholder is itself a company and the acts of oppression and unfair dealings are derived from the mind and acts of the principal directors?”

(Answered in the negative)

Question 2

“Whether a director and/or directors of a subject company who are privy to the wrongdoings perpetrated and/or undertaken at the subject company level, and such wrongdoings have been found to be within the ambit of section 181 of the Companies Act, 1965 (now section 346 of the Companies Act, 2016)?”

(Answered in the affirmative)

Question 2.1

“If in the affirmative, the circumstances in which such a director or directors may be visited with liability?”

(Ultimately dependent on the circumstances of a particular case)

Question 3

“Whether a third party and/or third parties, who are neither a director or a shareholder of a subject company in which proceedings are brought pursuant to section 181 of the Companies Act, 1965 (now section 346 of the Companies Act, 2016) may be visited with liability, whether jointly and/or severally, for acts within the ambit of the said section 181 (now section 346 of the 2016 Act)?”

(Answered in the affirmative)

Question 3.1

“If in the affirmative, the circumstances in which such third party and/or third parties may be visited with liability?”

(Ultimately dependent on the circumstances of a particular case)

(See: paragraphs 7 and 137 of the GOJ.)

SUMMARY OF MATERIAL FACTS

The GOJ contains the full picture of what has transpired, nevertheless, the following is a snippet of the material facts.

The parties in AJ v ER are as follows:

Appellant: Auspicious Journey Sdn Bhd (“Auspicious Journey”), which is the 20% minority shareholder in the subject company.

1st Respondent: Ebony Ritz Sdn Bhd (“Ebony Ritz”), which is the subject company and the nominal party.

2nd Respondent: Hoe Leong Corporation Ltd (“Hoe Leong”), which is the 80% shareholder of the subject company.

3rd Respondent: Kuah Geok Khim (“Paul Kuah”), who is a common director of Hoe Leong and the subject company.

4th Respondent: Kuah Geok Lin (“James Kuah”), who is a common director of Hoe Leong and the subject company.

(the 3rd and 4th Respondents are collectively referred to as the “Kuah Brothers”)

5th Respondent: Setinggi Holdings Ltd (“Setinggi”), a company that was dissolved.  The appeal did not proceed against it.

6th Respondent: Teh Teong Lay, the sole director and shareholder having control of Setinggi. 

Ebony Ritz is a joint venture company formed specifically to undertake the acquisition of 49% shares in Semua International Sdn Bhd (“Semua International”), which had been involved in the tanker chartering business.  The other 51% shares in Semua International was held by Sumatec Resources Berhad (“Sumatec”).  This acquisition is outlined in a sale and purchase agreement dated 05.05.2010 (Hoe Leong contributed 80% of the purchase price while Auspicious Journey contributed 20%).

On 05.05.2010 as well, Ebony Ritz, Sumatec, and Auspicious Journey entered into an Options and Financial Representation Agreement (“OFRA”), where it provided:

An unconditional and irrevocable guarantee by Sumatec to Ebony Ritz to make good any shortfall in the event Semua International’s audited profit after taxation falls short of the financial representations made by Sumatec.

In the event of a shortfall, various options were granted to Ebony Ritz to satisfy the Profit Shortfall Guarantee, which included an irrevocable grant of a call option by Sumatec to Ebony Ritz, the exercise of which would require Sumatec to sell not less than 2% of the issued and paid-up capital of Semua International to Ebony Ritz (“2% Call Option”). This option, if exercised, would give Ebony Ritz a majority stake and control over Semua International.

An irrevocable grant of a call option by Sumatec to Auspicious Journey, the exercise of which would require Sumatec to sell not less than 49% of the shares in Semua International to Auspicious Journey (“49% Call Option”).

Also on 05.05.2010, Ebony Ritz, Sumatec, and Semua International entered into a Shareholders’ Agreement; and that Ebony Ritz and Semua International entered into a loan agreement where Ebony Ritz is to provide an interest-free term loan facility of RM10 million to be utilized by Semua International.  

However, in financial year 2012, Semua International faced financial distress which resulted in a profit shortfall (which Sumatec had to make good under the OFRA).  

Subsequently, on 21.12.2012, Hoe Leong entered into a conditional sale and purchase agreement (“Conditional SPA”) with Setinggi, Ebony Ritz, and Sumatec for the disposal of the entire retained 51% equity interest of Sumatec in Semua International.  Auspicious Journey did not know this.   The effect of the Conditional SPA was that 2% was to be purchased by Hoe Leong for RM1.8 million and 49% was to be purchased by Setinggi for RM17 million. This would mean that the entire retained 51 % would be held by Hoe Leong as Setinggi was in effect its nominee.  The Conditional SPA never became unconditional and the sale did not go through.

Hoe Leong explained that the Conditional SPA was a salvage and warehousing arrangement due to Semua International’s financial difficulties and Auspicious Journey’s wish to extricate itself from its investment.  

Auspicious Journey found out about the salvage and warehousing arrangement in March 2013.  It was also made known to Auspicious Journey that Hoe Leong was prepared to place the all-important 2% shareholding in Semua International into Ebony Ritz, provided Auspicious Journey came up with its proportionate contribution for the same.  Auspicious Journey refused.  

Auspicious Journey then filed an originating summons under S181 of the Companies Act, 1965 (currently S346 of the Companies Act, 2016).  The High Court found that there is oppression and wound-up Ebony Ritz.  The High Court did not ascribe personal liability to the Kuah Brothers and Teh Teong Lay.  Auspicious Journey then appealed against the winding-up remedy (it preferred a buyout); while Hoe Leong appealed against the finding of oppression.  Both appeals were dismissed by the Court of Appeal.  Auspicious Journey then appealed to the Federal Court, while Hoe Leong did not.

(See: paragraphs 9 to 51 of the GOJ.)

DIRECTORS AND THIRD PARTIES CAN BE MADE PERSONALLY LIABLE IN OPPRESSION ACTIONS  

The use of words in limb (a) of S181 of the Companies Act, 1965 (currently S346 of the Companies Act, 2016) envisages oppressive conduct as being established where either the “affairs of the company are being conducted” or where the “powers of the directors are being exercised in a manner oppressive…”.  In this regard, the Federal Court held that the words are significant and allow the Courts to scrutinize how the powers of directors are being exercised.  When limb (a) and S181(2) of the Companies Act, 1965 are read together, the Court is allowed to fashion a remedy it thought fit, including devolving liability upon a director when he exercised his powers to oppress the minority shareholder or disregard his interest as a member:

“The words envisage the court scrutinising how the powers of the directors of the company in issue are exercised. The directors are expressly identified in the section to enable the court to make a finding that particular directors for the majority have utilised their powers in a manner which has resulted in oppression to the minority, or is in disregard of the minority’s interests.

[78] When limb (a), which expressly identifies the directors’ exercise of powers as a basis for establishing oppression, is read with section 181(2) which in turn gives the Court very wide powers to bring such conduct to an end, or to remedying the minorities’ grievance, it follows that there is no prohibition against the Court granting a remedy which encompasses the directors of the company personally. On the contrary, a construction of section 181(1)(a) and (2) reveals that the intention of the legislature was to allow the court the freedom to fashion a remedy it thought fit. That would encompass liability devolving on a director directly in circumstances where the director exercised his powers to:

(a) oppress the minority shareholder/s; or

(b) disregard their interests as members.”

(See: paragraphs 77 and 78 of the GOJ.)

The Federal Court further observed that limb (a) expressly refers to the “conduct of the affairs of the company”, which falls under the management duties and powers of directors, and therefore, limb (a) focuses on the acts of the directors in the conduct of the affairs of the subject company:

“[79] Further, a reading of limb (a) of section 181 (1) refers expressly to the “conduct of the affairs of the company”, which is a matter which falls within the management duties and powers of the directors, as they manage the company on behalf of the shareholders as a whole. Limb (a) therefore focuses on the acts of the directors expressly in the conduct of the affairs of the subject company.”

Interestingly, the Federal Court observed that limb (b) of Section 181(1) of the Companies Act, 1965 (currently S346 of the Companies Act, 2016) appears to concentrate on the acts of the company and its members as compared to limb (a) which refers to the company itself as well as the directors’ personal exercise of their powers.  The latter construction allows for liability to devolve onto the directors personally.  The Federal Court also observed that the words “without prejudice to the generality of subsection (1)” allows the Courts latitude to fashion a remedy that would include imposing liability on the parties or other persons, including directors, who have perpetrated the oppressive acts.  (See: paragraphs 80 to 83 of the GOJ.)

The Federal Court also noted that Section 181 of the Companies Act, 1965 (currently S346 of the Companies Act, 2016) contemplates “affairs of the company” and “acts of the company” from targets 2 levels.  Firstly, at the management level which must encompass the directors.  Secondly, the shareholder level.  (See: paragraphs: 84 to 86 of the GOJ.)

Such a liberal and broad interpretation of Section 181 of the Companies Act, 1965 (currently S346 of the Companies Act, 2016) is supported by the seminal cases of Re Kong Thai Sawmill (Miri) Sdn Bhd [1978] 2 MLJ 227, PC; Owen Sim Liang Khui v Piasau Jaya Sdn Bhd [1996] 1 MLJ 113, FC; and Koh Jui Hiong @ Koa Jui Heong & Ors v Ki Tak Sang @ Kee Tak Sang and another appeal [2014] 3 MLJ 10 at 28, FC. (See: paragraphs 87 to 88 of the GOJ.)  Support of this also stems from Singaporean, United Kingdom, Australian, and Canadian authorities. (See: paragraphs 89 to 125 of the GOJ.)

As for third parties, the Federal Court observed that the fact that third parties may be made respondents to an oppression action further supports the construction that liability may devolve upon such respondents, otherwise it would be pointless for them to remain as respondents if no reliefs are available against them.  (See: paragraphs 99 to 103 of the GOJ.)

THE UNDERLYING REASON AND THE LEGAL TEST

The Court explained that the underlying reason for devolving personal liability on directors and third parties (who are closely connected to the oppressive acts) in an oppression action to achieve fairness where there has been abuse:

“[126] From the liberal construction accorded to section 181 CA 1965 (now section 346 CA 2016) above, and a detailed consideration of the jurisprudence from other jurisdictions, all of which seek to achieve the same underlying purpose of achieving fairness for minority shareholders where there has been abuse by the majority vide directors or third parties, it may be concluded that it is open to the courts in this jurisdiction to impose liability against directors or third parties provided there is a sufficiently close nexus between the oppressive or unfairly discriminatory conduct, or disregard of the minority’s interests or otherwise prejudicial conduct and that party.  It requires something more than the mere fact of their being directors who had conduct of the affairs of the company at the material time. It requires deliberate involvement in the impugned transactions, or a sufficiently close nexus, participation or connection to warrant the imposition of liability to directors and third parties.”

(See: paragraphs 105 and 126 of the GOJ.)

The Federal Court then adopted the reasoning by the Canadian Supreme Court in Wilson v Alharayeri [2017] SCC 39.  The legal test applicable to ascribe personal liability to the directors and third parties is as follows:

“(a) Firstly, there should be evidence of deliberate involvement or participation in, or a sufficiently close nexus to the oppressive or detrimental or prejudicial conduct that the minority complains of, to warrant the attribution of liability to a director or third party;

(b) The imposition of liability should be fair or just in all the circumstances of the particular case;

(c) In assessing whether the imposition of such liability is fair or iust, the court should be satisfied that the remedy results in fairness to the parties concerned as a whole. In this context, liability may well be more easily assessed and imposed where a director has breached his duties, acquired personal benefit or where his acts or omission will result in prejudice to other shareholders. However, the foregoing examples do not comprise conditions without which liability will not be imposed. Ultimately the facts and factual matrix of each particular case will determine whether or not the imposition of liability on directors and/or third parties is justified. Such an assessment is undertaken on an objective basis.

(d) The attribution or imposition of liability should be circumspect, going no further than is necessary to remedy the breach complained of or to stop the oppressive or prejudicial conduct.

(e) Such imposition of liability must be reasonable, and serve to alleviate the legitimate concerns of the shareholders of the company in question;

(f) In exercising its powers under section 181 CA 1965 (now 346 CA 2016) the court should bear in mind general corporate law principles, such that director liability does not become a substitute for other statutory relief or under the common law.

(g) In summary, the question for the court is whether in the context of section 181 CA 1965 the defendant was so connected to the oppressive, detrimental or prejudicial conduct that it would be fair and just to impose liability against him for such conduct.”

(See: paragraphs 128 and 129 of the GOJ.)

WHY WAS AUSPICIOUS JOURNEY’S APPEAL DISMISSED?

Though the Courts below had set out various oppressive acts perpetrated by Hoe Leong (and the Kuah Brothers as the directors of Ebony Ritz), the Courts below recognized that what they effected was a salvage and warehousing arrangement in the best interests of Ebony Ritz.  The basis for the finding is that Auspicious Journey did not want to extend further monies for the joint venture and refused when sought (in contrast, Hoe Leong injected no less than RM38 million into Semua International).  

As such, it is inferred that Auspicious Journey was not prepared to come up with the requisite funds to purchase its share of the 2% call option available to Ebony Ritz, far less the 49% call option in its favour.  It is also inferred that while Hoe Leong’s acts themselves and the manner in which they were carried out may be categorized as prejudicial and detrimental to Auspicious Journey, they are all related to salvaging Ebony Ritz.

On this note, Federal Court observed that the applicability of the “fair and just” test requires the above to be considered to determine whether personal liability ought to be devolved upon the Kuah Brothers and Teh Teong Lay.  

As such, the Federal Court did not hold Kuah Brothers and Teh Teong Lay personally liable in this oppression suit.  

(See: paragraphs 138 to 142 of the GOJ.)

THE WINDING-UP REMEDY WAS MAINTAINED

Auspicious Journey’s prayer for a buyout order was rejected by the High Court and the Court of Appeal (Ebony Ritz was instead wound up).  

The Federal Court maintained the winding-up relief for the following reasons:

Courts under Section 181 of the Companies Act, 1965 (currently S346 of the Companies Act, 2016) have the discretion to refuse reliefs which they feel inappropriate on the facts even if they are insisted by the oppressed shareholder.

Even though a winding-up remedy is considered extreme or drastic, Courts may consider winding-up to beg more appropriate (need to consider the drastic character of winding-up.)

The remedy granted would depend on the complaint and the circumstances prevailing at the time of the hearing, not at the start of the proceedings.

The Federal Court cannot and will not unnecessarily interfere with the exercise of judicial power by the trial court, which was affirmed by the Court of Appeal.  

A buyout will result in Ebony Ritz breaching S11 of the Merchant Shipping Ordinance 1952 (requires any company involved in the oil tanker industry to be majority-Malaysian) and cause Ebony Ritz to be unable to carry out its business of chartering oil tankers, which went to the substratum on which Ebony Ritz was incorporated.  (Note: If the buyout is allowed, Ebony Ritz will be a wholly-owned Singaporean entity.) 

There is a breakdown of the relationship herein.

Ebony Ritz is a failed joint venture and insolvent. 

There was considerable disagreement on the valuation (basis and valuer). 

Auspicious Journey is seeking to escape from a bad bargain via a buyout remedy.

Even though a buyout may be the most practical and efficacious solution in many oppression cases, it does not mean that winding-up is effectively precluded or the remedy of the last resort.  

(See: paragraphs 143 to 158 of the GOJ.)

REFLECTIVE LOSS

The Federal Court observed that no action lies at the suit of a member suing in that capacity to make good a diminution in the value of his shareholding, where it is merely a reflection of the loss suffered by the company.  

The Federal Court also observed that the losses suffered by Ebony Ritz. While the fact of the occurrence of the events giving rise to the losses is relevant for the purposes of establishing oppression, detriment, or prejudice, this does not translate into actual loss suffered by Auspicious Journey. 

(See: paragraphs 159 and 160 of the GOJ.)

CONCLUSION AND ORDERS

In conclusion, directors and third parties can be made personally liable in oppression actions.  The circumstances in which such liability will devolve will ultimately depend on the circumstances of a particular case.

The Federal Court dismissed Auspicious Journey’s appeal with no order as to costs and remitted the matter to the High Court for damages to be assessed by the High Court judge.