D & O insurance and reflective loss claims

Donald Dinnie, Norton Rose Fulbright

At common law when a wrong is done to a company only the company can sue for the damage caused to it.

A shareholder cannot recover damages merely because the company in which they are interested in has suffered damage. They cannot recover a sum equal to the diminution in the market value of their shares or equal to the likely diminution in dividend because such a loss is ‘merely a reflection of the loss suffered by the company’.

This common law position has been confirmed in two recent judgments, the Supreme Court of Appeal case of Hlumisa Investment Holdings (RF) Limited and Others v Leonidas Kirkinis and Others and the Gauteng High Court judgment of De Bruyn v Steinhoff International Holdings N.V. and Others.

In both cases the question was whether section 218(2) of the Companies Act 2008, which states that ‘any person who contravenes any provision of this Act is liable to any other person for any loss or damage suffered by that person as a result of that contravention’ provided shareholders with a statutory right of action and changed the common law prohibition against a reflective loss claim.

The courts said that the company’s existence as a separate legal person, and the fact that it is the company which has a right to recover damages for the loss, deprives a shareholder of any such claim.

The person who can sue in terms of section 218(2) to recover the loss is the one to whom harm was caused. In both cases the loss was occasioned to the company and that is the entity with the right to claim.

Shareholders may pursue a derivative action under section 165 of the Companies Act if the company refuses to act to protect its rights. Compensation which is then due to the companies would benefit the shareholders.

The law remains that directors owe a fiduciary duty to the company and not its shareholders and that those shareholders cannot claim from directors for any reflective loss suffered. The common law in that regard is not altered. This will have a limiting effect on potential claims under Directors & Officers insurance policies.

First published by: Financial Institutions Legal Snapshot