Although English law does not include an implied duty of good faith, the courts are willing to enforce contractual duties of good faith where appropriate.
In Compound Photonics Group Ltd and Faulkner v Vollin Holdings, however, the Court of Appeal has clarified that a good faith obligation must be interpreted according to the context in which it appears and has held that it is unlikely to be interpreted as compelling the parties to remain faithful to their original agreed intention. Instead, such a duty is more likely to require that the parties act honestly in their dealings with each other and not act in bad faith.
The Background
A group of minority shareholders in Compound Photonics Group Ltd brought an unfair prejudice petition under Section 994 of the Companies Act 2006. They claimed that they had been unfairly prejudiced by the conduct of the majority shareholders when they forcibly removed two key directors from office. Both were among the minority shareholder claimants.
Neither the Company’s Articles of Association nor the shareholders’ agreement contained an express term entrenching the directors’ positions as directors but the minority shareholders asserted that there had been an agreement that the two directors were protected from being removed and that therefore the removal of the directors constituted a breach of the good faith obligation in the shareholders’ agreement.
In the first instance, the High Court agreed with the minority shareholders, finding that the removal of the directors had breached the contractual good faith obligation.
What Did The Court of Appeal Say?
The Court of Appeal, however, disagreed with the High Court’s broad approach to the contractual duty of good faith in the shareholders’ agreement and found that the majority shareholders did not breach the good faith obligation or unfairly prejudice the minority shareholders.
In reaching this decision, the Court emphasised that good faith clauses must be interpreted in the context in which they are being used. The core requirement of a good faith obligation is an obligation to act honestly and depending on the context, it may be breached by conduct taken in bad faith.
It went on to say, however, that a good faith clause could not be presumed to prescribe how the parties should behave or prevent them from changing the structure. Furthermore, on the facts of this case, it was not correct to say that the two directors were protected from being removed. If this was the case, it should have been expressly provided for in the Company’s articles or the shareholders’ agreement.
Our Comment
The Court of Appeal took a much narrower interpretation of the good faith obligation and emphasised that it was not appropriate for it to define a minimum standard applicable to all good faith clauses. Rather, it concluded that the meaning of good faith needs to be decided by reference to the individual facts of each case.
On a practical note, to entrench the position of directors appointed by one set of shareholders, it is necessary for the other shareholders to explicitly agree in a shareholders’ agreement (or another document) not to vote to remove these directors. Otherwise, the directors can still be removed from office under the provisions of the Companies Act 2006.For more information, contact our commercial litigation and dispute resolution team or email us.
