Key Takeaways
- • A derivative action enforces a right of the corporation — any recovery flows to the corporation, not to the complainant personally
- • Leave required under OBCA s.246(2): 14-day notice to directors, good faith, best interests of the corporation
- • The proper plaintiff rule (Foss v Harbottle) bars shareholders from suing for wrongs done to the corporation — derivative action is the exception
- • "Complainant" includes registered/beneficial shareholders, former shareholders, directors, officers, and any person the court finds proper — OBCA s.245
- • Court has broad remedial powers including directing the corporation to bring the action, appointing counsel, and awarding costs
- • Business judgment rule and independent board committee investigations may affect the leave analysis
- • Oppression remedy (OBCA s.248) often pleaded alongside or instead of derivative action — different remedy, different standing
The Proper Plaintiff Rule: Foss v Harbottle
The common law proper plaintiff rule from Foss v Harbottle (1843) 2 Hare 461 establishes that a wrong done to a corporation is the corporation's cause of action — only the corporation itself can sue for it, and the corporation acts through its board of directors. Shareholders have no personal right of action for losses suffered by the corporation, even if those losses reduce the value of their shares.
The rule also includes the majority rule principle — the courts will not interfere with a decision of a majority of shareholders to ratify a wrong (subject to fraud on the minority exceptions). These common law rules have been substantially modified by statute through the OBCA and CBCA derivative action provisions.
The statutory derivative action allows a "complainant" to bring an action in the name and on behalf of the corporation where the directors have failed or refused to bring the action and leave of the court is obtained.
Who Is a "Complainant"?
Under OBCA s.245, a "complainant" means:
- A registered holder or beneficial owner, or former registered holder or beneficial owner, of a security of a corporation or any of its affiliates
- A director or officer, or former director or officer, of a corporation or any of its affiliates
- The Director appointed under the OBCA
- Any other person who, in the discretion of the court, is a proper person to make an application under the applicable section
The category of "any other person the court finds proper" has been interpreted broadly. Creditors have been granted complainant status in appropriate circumstances, particularly where the corporation is insolvent or near-insolvent. The applicant must have a genuine and legitimate interest in the outcome (Pente Investment Management Ltd v Schneider Corp (1998) 42 OR (3d) 177 ONCA).
Requirements for Leave: OBCA s.246(2)
Leave to bring a derivative action will be granted by the court if satisfied of three conditions under OBCA s.246(2):
1. Notice to Directors (14 Days)
The complainant must have given reasonable notice (OBCA s.246(2)(a) specifies 14 days minimum) to the directors of the corporation of the intention to apply for leave if the directors do not bring, diligently prosecute, or defend the action. The notice requirement gives the board an opportunity to bring the action itself — if the board commences a bona fide action in response to the notice, the derivative action application may become moot.
2. Good Faith
The complainant must be acting in good faith. The good faith requirement filters out complaints motivated purely by personal hostility, collateral purposes, or bad faith. Courts have held that a complainant who genuinely believes in the merits of the claim and is not acting solely to extract a personal settlement or inflict harm on the corporation satisfies good faith (Discovery Enterprises Inc v Ebco Industries Ltd (1997) 32 BLR (2d) 20 BCCA, applied in Ontario). The prospect of personal benefit (increased share value) does not negate good faith.
3. Best Interests of the Corporation or Its Shareholders
It must appear to be in the interests of the corporation or its shareholders that the action be brought. Courts conduct a prima facie merits analysis — the claim must have a reasonable prospect of success. Relevant factors include: the value of the claim, availability of other remedies, cost of litigation relative to potential recovery, whether the corporation (if controlled by independent directors) has already considered and rejected the claim, and whether an independent special committee has reviewed the matter. Courts apply the business judgment rule to the board's decision not to bring the action — but a refusal by conflicted directors (the alleged wrongdoers) carries little weight.
Conduct of the Derivative Action
Once leave is granted, the court may make any order it thinks fit in connection with the derivative action, including (OBCA s.246(4)):
- Authorizing the complainant or another person to control the conduct of the action (including retaining counsel)
- Giving directions for the conduct of the action including interim injunctions, discovery, and trial procedure
- Requiring the corporation to pay reasonable legal fees and disbursements incurred by the complainant in connection with the action (costs indemnity order)
- Requiring the corporation to pay reasonable legal fees and disbursements where the action is unsuccessful but brought in good faith
Costs Indemnity: Key Protection for Complainants
One of the most important features of the statutory derivative action is the court's power to order the corporation to indemnify the complainant for legal costs. This removes the financial barrier that would otherwise prevent minority shareholders from enforcing corporate rights — the complainant is effectively enforcing the corporation's right, not their own, so it is appropriate that the corporation bear the costs. Courts routinely grant cost indemnity orders at the leave stage.
Recovery Flows to the Corporation
In a derivative action, any recovery (damages, an account of profits, injunction) runs to the corporation — not to the complainant personally. This is fundamental to the distinction between a derivative action and a personal action:
- The wrong was done to the corporation — the corporation is the plaintiff and receives any judgment
- The complainant shareholder benefits only indirectly, through the increase in the value of their shares caused by the recovery flowing to the corporation
- This indirect benefit means a derivative action will rarely satisfy a minority shareholder who wants a personal remedy — the oppression remedy is usually the preferred vehicle for personal relief
- Courts may in rare circumstances order that recovery go directly to the complainant (e.g., where the corporation is controlled by the wrongdoer and would simply receive and retain the funds), but this is exceptional
Derivative Action vs Oppression Remedy
| Aspect | Derivative Action | Oppression Remedy |
|---|---|---|
| Statute | OBCA s.246 / CBCA s.239 | OBCA s.248 / CBCA s.241 |
| Right enforced | Right of the corporation | Personal right of the complainant |
| Recovery | To the corporation (not complainant) | To the complainant or as court orders |
| Leave required | Yes — leave of court required | No — application directly to court |
| Notice to directors | 14 days minimum | Not required |
| Standard | Good faith + best interests of corp | Oppressive, unfairly prejudicial, or unfairly disregards interests |
| Remedies | Any order in favour of corporation | Any order courts thinks fit — very broad |
| Standing | OBCA s.245 complainant (broadly defined) | OBCA s.245 complainant plus creditors |
In practice, both remedies are often pleaded simultaneously in the same action. The court has held that the same conduct may give rise to both a derivative claim (wrong to the corporation) and an oppression remedy claim (unfair disregard of the minority shareholder's interests). The availability of the oppression remedy may be relevant to the leave analysis — if oppression provides an adequate personal remedy, bringing a derivative action may not be in the best interests of the corporation.
Business Judgment Rule and Independent Committee Review
The board's decision not to bring an action against a fellow director or officer is accorded some deference under the business judgment rule — courts recognize that litigation has costs and risks. However, the deference is significantly reduced where:
- The potential defendants are on the board reviewing the decision (conflict of interest)
- The board has not properly informed itself of the claim's merits
- The decision was effectively taken by the alleged wrongdoers themselves
Where a corporation appoints an independent special committee to review the derivative action claim (as is common in public companies and larger private companies), the committee's recommendation carries significant weight. A well-reasoned recommendation by a genuinely independent committee to not bring the action may defeat a leave application. However, Ontario courts are less deferential to special committees than some US jurisdictions.
Frequently Asked Questions
Can a creditor bring a derivative action in Ontario?
Possibly. A creditor is not listed in the statutory definition of 'complainant' in OBCA s.245 but may be granted complainant status under the catch-all 'any other person the court finds proper'. Courts have granted creditor standing in insolvency-adjacent situations where the corporation is near-insolvent and the creditors effectively stand in the shareholders' shoes. Creditors have stronger standing under the oppression remedy.
Does the 14-day notice requirement apply to a CBCA corporation?
Yes — CBCA s.239(2)(a) contains an equivalent notice requirement (reasonable notice, not less than 14 days in all cases). The CBCA regime is substantively similar to the OBCA regime for leave requirements, conduct of the action, and remedies.
What happens if the corporation settles the derivative action without the complainant's consent?
A derivative action may not be discontinued, settled, or dismissed without leave of the court (OBCA s.246(5)). This prevents the corporation (controlled by the alleged wrongdoers) from terminating the action by a quick settlement that is not in the corporation's best interests. The court will scrutinize proposed settlements to ensure they are fair to the corporation.
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