In a recent decision, the High Court in England provided helpful guidance on the high evidential bar that must be satisfied for the English courts to grant the exceptional interim relief of removing directors who have allegedly breached sanctions regulations.
In Garofalo v Crisp and Ors [2024] EWHC 1737 (Ch), the English Court found that a higher evidential threshold should be applied when deciding whether or not to grant an exceptional interim relief for a change of management order.
The judgment underscores the common law courts’ readiness to grant robust interim relief, including the removal of directors, to protect companies from the fallout of sanctions violations. It provides general guidance that such exceptional relief can be warranted in circumstances where the continuance of office by the directors poses a serious threat to a company’s reputation and viability.
Background of Garofalo v Crisp
The case concerns a group of companies (Valorem Holdings Limited and its subsidiaries (the “Companies”)) in the business of manufacturing, distributing, and selling luxury perfumes, embroiled in an interim application within an unfair prejudice petition under section 994 of the English Companies Act 2006 (the “Companies Act”).
The central allegation was that the first respondent Mr Crisp (Mr Crisp), in his role as director, had caused the companies to export perfume to Russia in breach of sanctions regulations, without the knowledge or consent of the petitioner, a minority shareholder. This was alleged to be in breach of the parties’ Relationship Agreement, Mr Crisp’s fiduciary duties and his statutory duties as a director.
The petitioner, Mr Garofalo, successfully obtained an ex parte injunction to remove Mr Crisp as a director and appoint new directors selected by him (Mr Garofalo) in order to mitigate the threat of reputational damage and viability of the Companies arising from the alleged breach of sanctions regulations.
The High Degree of Assurance Test for Interim Relief
In considering the petition for interim relief – the removal of Mr Crisp as director and the installation of new directors – the court emphasised that this exceptional measure required meeting a “high degree of assurance” test to minimise potential risks of injustice. This sets a higher evidentiary threshold than the usual “serious issue to be tried” test.
In applying this test, the court considered whether the threshold was met for removing Mr Crisp’s management control on an interim basis pending final determination of the underlying unfair prejudice action. This involved assessing the strength of the evidence regarding the alleged sanctions breaches and whether this justified the interim relief sought. The court found that on the evidence, there was a high degree of assurance that Mr Garofalo would succeed at trial, and such orders will be appropriate by themselves or they will be found to have been appropriate ancillary to the final relief which will be ordered, and that there was an exceptionally strong prima facie case that there had been unfair prejudicial conduct to the shareholders within the meaning of section 994 of the Companies Act. These conclusions were solely based upon the allegations regarding Mr and Mrs Crisp’s involvement in the continued trading with Russia.
Furthermore, in considering whether the balance of convenience lied in favour of granting or refusing the relief, the court carefully weighed the potential harm of altering the “status quo” of the Companies and continued sanctions to the Companies’ business and reputation against the potential disruptions that may be caused by Mr Crisp’s removal. Given the exceptional nature of a change of management order, it was especially important that the court exercised a heightened level of caution and scrutiny in its evaluation. This was crucial as the order for the removal of Mr Crisp as a director carried a great potential of injustice had it been made incorrectly.
Ultimately, the court concluded that, in satisfying the “high degree of assurance” test, the order for a change of management was appropriate and should remain in force until trial or a final relief for the following reasons:
- The Companies may suffer severe reputational damage upon news of the breach sanctions regulations becoming public in the event that no immediate steps had been taken to distance the Companies from Mr Crisp. That reputational damage, if not addressed properly, could very potentially jeopardise the future viability of the Companies. To mitigate the threat of reputational damage on the Companies, a more graduated order or less invasive approach (e.g. an injunction to restrain Mr Crisp from trading with Russia or acting in breach of sanction legislation and to compel him to provide information regarding such trading) would not suffice.
- More particularly, if the Companies had retained Mr Crisp as a director for any time at all, the message of total distance from him would not have been effective. As Mr Crisp was not only a director and but also in day-to-day charge of the Companies, it would not have been practicable to have simply suspended him. In such event, the Companies would still be associated with this trading through the retention of Mr Crisp as a director.
- Alternatively, it can be argued that the court can appoint receivers as an interim relief measure (a measure provided under section 994 of the Companies Act that can be used in unfair prejudice proceedings). However, appointing receivers may give rise to a perception in the market of insolvency or a business crisis, which may not be desirable. A change of management order would allow the new directors appointed to immediately continue management of the business, whereas there may be a need for receivers to familiarise themselves with the company first. Therefore, appointing new directors may be the preferable measure, whereas appointing receivers is rather seen as a ‘last resort’ when other orders, such as removing and appointing directors, are insufficient to protect the company and its shareholders.
- The court is, therefore, satisfied that the removal of Mr Crisp as director, the appointment of the new directors, and the purchase by Mr Garofalo of Mr Crisp’s shares in the Companies, are order which could be granted on the final relief on a section 994 petition under section 996 or are appropriate relief ancillary to the relief sought in this case of a buy-out of Mr Crisp’s shares. On the basis of the evidence before the court, there is a high degree of assurance that such orders will be appropriate either on the basis that they are appropriate by themselves or they will be found to have been appropriate ancillary to the final relief which will be ordered.
Comment
It is worth noting that prior to this case, there had not been identified an English authority where an ancillary order was made under an unfair prejudice petition to remove and replace a director, whether on an ex parte application or at all. The court in this case referred to the Hong Kong authority Shih-Hua Investment Co. Ltd v. Zhangaidong and others [2017] 3 HKC 393 in which a change of management was granted by way of a similar order, which was referred to as a “reconstitution order”.
The judgment demonstrates the courts’ willingness to take exceptional steps, including removing a director on an interim basis, where there is cogent evidence of serious wrongdoing that poses a grave threat to the company’s viability and reputation. Bearing in mind the general principle of not interfering with a company’s internal management, the “high degree of assurance” test underscores the courts’ recognition that the exceptional interim order for a change of management necessitates a heightened evidentiary standard, which in turn, upon satisfying the higher threshold, provides a readily convincing case. This guidance reinforces the courts’ commitment to protecting companies from the fallout of non-compliance with sanctions regulations and other statutory regulations.
We anticipate that this helpful authority will be often cited going forward in other common law jurisdictions including Bermuda, BVI and the Cayman Islands in support of applications seeking robust interim reliefs in unfair prejudice actions. Practitioners should keep a close eye on how the jurisprudence in this area further develops in the common law world: on one hand, in the ordinary case intrusion should be kept to the minimum of what the court considers absolutely necessary and appropriate (with a view to preserving the “status quo”); on the other hand, it is observed that in suitable situations, such more intrusive interim measure can be justified – change of management can be a more desirable, practical way to protect the position of the company when compared with, for instance, appointment of receivers which commonly gives rise to a perception in the market of insolvency or a business crisis.
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