Out of Sight, Out of Mind – A Timely Reminder of the Importance of Being Clear!

The Court of Appeal has ruled in the case of Dixon and EFI (Loughton) Ltd v Blindley Health Investments that the doctrine of estoppel by convention can apply where the parties involved have forgotten about the existence of any earlier agreement.  The outcome illustrates the importance of recording agreements between shareholders, particularly when such agreements relate to the procedures governing the transfer of shares.

The Case

EFI (Loughton) Ltd was incorporated at the turn of the millennium and shortly afterwards the founding shareholders agreed, through a series of written items of correspondence, that no shares in the company were to be transferred unless they were first offered pro rata to the existing shareholders.

Over the following 8 years the company operated smoothly and there was no instances where the pre-emption rights were required.  However upon the death of one of their fellow founding shareholders, a Mr Dixon and a Mr Wells launched a takeover bid which involved the purchase of the deceased’s shares by a new company which they had formed.  This move was in breach of the pre-emption rights agreed back in 2001 however the transfer was nonetheless approved at a board meeting in 2010 with no reference being made to the pre-emption provisions previously agreed.

Two years on, Blindley Heath Investments sought to purchase the shares of two of the founding members who had not sold up to Dixon and Wells.  Once again a board meeting was convened and the transfer was approved with no reference to the pre-emption rights which should have been engaged.  Shortly after the approval, however, Mr Dixon rediscovered the existence of the pre-emption agreements and at the subsequent board meeting the register of the share transfer was blocked.

The proposed investors took to the courts seeking a declaration that there was no valid pre-emption agreement and that the shares could therefore be validly transferred.  To assist their case they employed the legal maxim of estoppel by convention, which prevents parties to an agreement from denying the truth of an assumption of fact or law, in this case the absence of pre-emption rights, that had been mutually relied upon by the parties.  It was argued by Mr Dixon and his fellow appellants that doctrine of estoppel required the parties to be operating under a mistaken belief that pre-emption rights did not exist, and that the scenario at hand was distinguishable as the parties had merely forgotten that the rights existed.

The Court of Appeal rejected this argument and confirmed that the estoppel principle is not confined to incidences of mistaken belief.  This, coupled with the judge’s assertion that both parties had clearly and positively assumed that the pre-emption rights did not exist at the board meetings that preceded Mr Dixon’s recollection, led to a verdict that the appellants were estopped by convention from enforcing the pre-emption agreement.

Advice for Businesses

The outcome of this case demonstrates why agreements such as those entered into by the founding shareholders of EFI should be formally documented in clear terms.  The ideal way of achieving this certainty is to update the Company’s articles of association to include any pre-emption provisions, or alternatively the provisions could be dealt with in a shareholders’ agreement.  The benefit of keeping these provisions in the articles of association is that this is a public document which is open to inspection at Companies House and subsequently its terms are unlikely to be forgotten or ignored.

If you require any advice or assistance on the constitutional documents of your company or on any other corporate and restructuring matters, please do not hesitate to contact me at nick.pickup@forbessolicitors.co.uk or on 0800 321 3258.

Nick Pickup

About Nick Pickup

Nick Pickup is a Solicitor within the Corporate and Restructuring team at Forbes Solicitors. Nick’s blogs cover his specialism of work on mergers and acquisitions, business start up’s, joint ventures, shareholder issues, company restructures and general company advice.
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