Sherlock Holmes and the case of the vanishing director

"Things must be done decently and in order"
Sir Arthur Conan Doyle, The Adventure of the Retired Colourman

Any good director knows that they have a duty to act in accordance with the company's articles of association. These dictate how directors should be appointed and removed, how shares are transferred and how key decisions should be made.

Yet real life isn’t always that neat in practice. So what happens if a company discovers that it has invalidly appointed its directors over the past twelve years? A recent judgment tells us that company articles can be amended by conduct – but warns that your articles can still come back to bite you in the end.

"If you are clever enough to bring destruction upon me, rest assured that I shall do as much to you"
The Final Problem

The Sherlock Holmes International Society Ltd (the company) was one of four companies which together ran the Sherlock Holmes Museum in Baker Street for the Aidiniantz family. In 2012 a serious dispute broke out between John Aidiniantz and his sisters over who should hold the admission fees which were being collected by the company. In 2014 Mr Aidiniantz, by then the company’s sole member, presented a petition to wind up the company. Stephen Riley, the company’s sole director, appealed against the petition on the company’s behalf.

Aidiniantz’s next move was intriguing. In 2015, he applied to dismiss the appeal on the grounds that it had not been properly authorised. Since incorporation, the company’s articles had included a restriction that only members of the company may be its directors. The articles had never been formally amended. Since Riley was not, and had never been, a member of the company, Aidiniantz argued that Riley was not a valid director and therefore did not have the authority to make the appeal on the company’s behalf.

"There is nothing more stimulating than a case where everything goes against you"
The Hound of the Baskervilles

The company’s response was equally ingenious. Since incorporation, the company had had several directors who were not members – including one of the original two. It claimed that this meant that the articles had been varied by conduct, despite no express agreement to do so. Riley had therefore been validly appointed, and the company’s appeal should stand.

"….we balance probabilities and choose the most likely. It is the scientific use of the imagination."
The Hound of the Baskervilles

The court agreed with the company. The articles of association are a species of contract between the members. They can be amended by agreement (special resolution) of the members. Past case law has established that that agreement may be reached informally, by unanimous consent. Agreements can also be inferred from conduct, and there is no reason in principle why that cannot apply to an agreement to amend the articles.

The court found, on the balance of probabilities, that the members had appointed non-member directors, on several occasions, despite knowing about the restriction in the articles. Therefore, the members had intended to amend the articles to remove the restriction that only members of the company may be its directors.

Does that mean that companies are free to ignore their articles? Sadly for the company, the story doesn’t end here. The articles also stated that directors appointed by the board should only hold office until the next AGM. This rule had not been varied by conduct.

Since no AGM had been held in 2014, Riley’s appointment was deemed to have ceased on the last possible date on which it could have been held – 31 December 2014. Therefore the company had no directors who could bring the appeal. The bitter struggle between Aidiniantz and his kindred had taken it over the Reichenbach falls.

"Any truth is better than indefinite doubt"
The Adventure of the Yellow Face

Our views on this case

Inconsistencies between a company’s articles and how the company has actually been managed usually crystallise on a sale, on insolvency or a dispute. Sometimes these difficulties are easily resolved – for instance by adjusting the terms of a share sale – but this case reminds us that neglect can be fatal.

A company’s directors should ensure that the company’s own housekeeping is in order. They should check the articles to make sure that recent appointments, transactions and operations complied with them. They may consider that the articles should be formally amended to reflect the company’s current needs. Taking these steps and, if in doubt seeking legal advice, can involve time and money. The alternative may be complex, risky and much more expensive litigation – and that is far from elementary.

To read the case, click here: Sherlock Holmes International Society Ltd, Re [2016] EWHC 1076 (Ch)

 

If you have any questions please contact Nicola Mallett.