The decision
In Cheshire Estate & Legal Limited v Blanchfield [2024] EWCA Civ 1317, the Court of Appeal considered the lawfulness of steps taken by former directors of a corporate law-firm to set up a new firm.
For several months prior to their resignations as directors of the claimant, the defendants had taken preparatory steps to set up the new firm. These included registering a trading name, incorporating a corporate vehicle for the firm (with the defendants as directors), seeking professional indemnity insurance for the new company, setting up a website, opening a bank account, applying to the SRA to register the company and entering discussions with litigation funders, including one with which the defendants had previously had negotiations on behalf of the claimant (albeit those negotiations had failed with the claimant entering into an exclusive deal with another funder).
The Court of Appeal upheld the trial judge’s finding that such conduct was, on the facts, not a breach of the directors’ duties.
In doing so, the Court of Appeal cited with approval Etherton J’s analysis in the earlier decision of Shepherds Investments Ltd v Walters [2006] EWHC 836 (Ch):
“…the precise point at which preparations for the establishment of a competing business by a director become unlawful will turn on the actual facts of any particular case. In each case, the touchstone for what, on the one hand, is permissible, and what, on the other hand, is impermissible unless consent is obtained from the company or employer after full disclosure, is what, in the case of a director, will be in breach of the fiduciary duties to which I have referred or, in the case of an employee, will be in breach of the obligation of fidelity. It is obvious, for example, that merely making a decision to set up a competing business at some point in the future and discussing such an idea with friends and family would not of themselves be in conflict with the best interests of the company and the employer. The consulting of lawyers and other professionals may, depending on all the circumstances, equally be consistent with a director’s fiduciary duties and the employee’s obligation of loyalty. At the other end of the spectrum, it is plain that soliciting customers of the company and the employer or the actual carrying on of trade by a competing business would be in breach of the duties of the director and the obligations of the employee. It is the wide range of activity and decision making between the two ends of the spectrum which will be fact sensitive in every case. In that context, [it] may [be] too prescriptive [to say] …that the director must resign once he has irrevocably formed the intention to engage in the future in a competing business and, without disclosing his intentions to the company, takes any preparatory steps….”
The Court of Appeal in Chesire Estate also rejected an earlier statement of HHJ Hodge QC in a different authority to the effect that, whilst still employed, an employee could not lawfully take steps necessary to establish a competing business so that it is ‘up and running’ or ready to go as soon as the employee left his employment. The Court held that this had been too dogmatic a statement given the wide range of circumstances in which that situation might occur, whether in the context of a director or an employee.
Instead, the preferable approach was that identified by Etherton J in Shepherds Investments, namely that whether preparatory actions, short of active competition, were consistent with a director’s fiduciary duty to the company was highly fact sensitive in every case; even an irrevocable intention to compete did not necessarily mean that merely preparatory steps were unlawful.
On the facts, the directors were the right side of the line: – (i) the steps taken were entirely preparatory to trading which would not start until six months after the defendants resigned, (ii) the venture might not have proceeded until the SRA’s indicated that it was minded to approve the registration which came only four days before the directors resigned; (iii) in the meantime the defendants were able to and did serve the claimant faithfully.
Brief comment
Inevitably cases in this field are highly fact-sensitive.
This decision will be welcomed, however, by former directors and employees for rejecting the more hard-line approach previously indicated by HHJ Hodge Q.C. and re-affirming the more nuanced approach taken in Shepherds Investments.
