Can a parent company bring a derivative action on its subsidiary’s behalf?

Can a parent company bring a derivative action on its subsidiary’s behalf? This issue was briefly dealt with in the Court of Appeal case of Pioneer Haven Sdn Bhd v Ho Hup Construction Co Bhd & Anor Appeals. We will briefly look at the case below. 

Brief facts of the case

Ho Hup Construction (the first respondent in the case) was a public-listed company that owned 70% of the issued and paid-up capital in Bukit Jalil Development. Bukit Jalil Development owns a 60-acre piece of land. Having suffered losses over several years, Ho Hup Construction had obtained time from Bursa Malaysia to carry out a regularisation plan to address such losses. 

At this juncture, a chain of events occurred:

1. An extraordinary general meeting (EGM) was called by certain parties to remove the bulk of Ho Hup Construction’s then-existing directors; 
2. A board meeting of Bukit Jalil Development resolved that Bukit Jalil Development enters into a joint development agreement (‘JDA’) with Pioneer Haven to develop the land jointly. That proposal was supported by a resolution taken at a Board meeting of Ho Hup Construction. 
3. During the EGM and following the execution of the JDA, its shareholders removed those of its directors who had supported the JDA while those who had voted for it in Bukit Jalil were separately removed at its shareholders’ meeting. 
4. The new board of directors of Ho Hup Construction filed a claim in the High Court to have the JDA avoided on the ground that prior approval of the shareholders of both companies had not been obtained pursuant to section 132C of the Companies Act 1965 (currently section 223 of the Companies Act 2016) as the JDA entailed a disposal of the land to Pioneer Haven and that those directors of both companies who had committed Bukit Jalil to the JDA had acted improperly and breached multiple duties.
5. Ho Hup brought the suit both in its own right and by way of derivative action on Bukit Jalil’s behalf.

The parties claim

Pioneer Haven opposed the legal action, claiming (amongst others) that Ho Hup has no personal nor derivative right to commence the legal action, as they are the majority shareholders of Bukit Jalil Development. 

On the other hand, Ho Hup Construction claimed that the basis for commencing a derivative action is that they do not have control of Bukit Jalil Development at the time of commencement of the legal action (i.e. they do not have control in terms of the numbers of directors in Bukit Jalil Development), despite being the majority shareholder of Bukit Jalil. 

PS: To know more about what derivative action is, kindly look at our previous articles on this topic.

The court’s decision

For this claim in particular (the Court of Appeal sided with Pioneer Haven), both the High Court and Court of Appeal agreed that Ho Hup has no derivative right to commence the legal action on behalf of Bukit Jalil Development. 

The court’s rationale

In coming to its decision, the Court of Appeal noted that the test for whether a derivative action can be maintained is not whether the ‘wrongdoer-directors’ are in control of the board of a company, but whether the ‘wrongdoers’ control the general meeting. As noted by the court:

“Generally, the right to litigate in the name of the company is vested in the board of directors. However, the concept of ‘control’ in the context of Foss v Harbottle means or refers to control of general meetings and not control over the right to litigate in the name of the company. The necessity to determine who has control over the general meeting is the result of the rule established in Mac Dongall v Garnier that is, if a wrong is capable of being cured or ratified by the majority in the general meeting, then there is no basis for a derivative action.”

On the facts of this particular case:

1. Ho Hup Construction owns 70% of the shares of Bukit Jalil Development; and
2. After the removal of the directors mentioned above, the Board of Bukit Jalil Development compromised on directors nominated by Ho Hup Construction.

Essentially, Ho Hup Construction is in control of Bukit Jalil Construction- In such a situation, the court noted that Ho Hup Construction cannot then turn around and bring a derivative action on behalf of Bukit Jalil Development, as in this situation, there is no ‘wrongdoer control’ as claimed by Ho Hup Construction. 

Conclusion

In conclusion, the answer is yes, a parent company can bring a derivative action on its subsidiary’s behalf, provided that the parent company does not hold more than 50% of the subsidiary.