A significant precedent was handed down recently by the Israeli Supreme Court, whereby a company’s separate and independent standing must be recognized, even after a motion for a derivative suit has been approved.

According to the mechanism prescribed in the Companies Law, 5759 – 1999, the right to file a derivative suit is not automatically vested to a plaintiff; it requires the court’s approval. In addition, before filing a derivative suit with the court, the derivative plaintiff must first apply to the company and demand that it assert all of its rights by way of filing a lawsuit with regard to the relevant matter.

If the court approves a derivative suit, the suit must be conducted by that same shareholder or director on behalf of the company.

In May 2014, the District Court approved the filing of a derivative suit on behalf of Africa Israel Investments Ltd. against its controlling shareholder, the chairman of its board, and a number of the company’s directors.

During the proceeding, the company reached the conclusion that the derivative plaintiff’s conduct during the suit, and his refusal to cooperate with the ad hoc committee formed for this litigation, was detrimental to the company’s interests (which the plaintiff was supposedly seeking to protect). Therefore, the company filed a motion with the court to recognize its right to have an independent standing during the suit, as well as to recognize its own representation before the court within the scope of the proceedings. This was done because the company believed separate and independent representation was in its best interests and in the best interests of its shareholders.

The Supreme Court’s ruling stated that, for the most part, a derivative plaintiff does not usually bother himself with affairs relating to the company’s routine operations, and all he is interested in is the success of his derivative suit. Therefore, there is logic to the argument that the derivative plaintiff views matters with a narrow perspective, does not take into account all of the company’s interests, and, consequently, is liable to cause damage. Therefore, the best interests of the company (and its shareholders) warrant that, when conducting a derivative suit, the company’s arguments are also considered—insofar as the company believes that the way the derivative plaintiff is handling the proceedings is harmful to its interests.

Nevertheless, the judgement clarifies that the company’s right to voice its position independently before the court does not afford it a permanent place at the table during the course of the derivative suit, as well as that the company’s standing is limited solely to those situations when the mode of conduct of the proceedings by the derivative plaintiff is liable to be detrimental to the company’s interests. Furthermore, the company is not allowed to refer to the court any time it desires to voice its position in relation to a proceeding underway.

Therefore, the Supreme Court ruled that, on the one hand, the court must open its doors to the company, out of recognition of the possibility that the mode of conduct of the derivative suit might be detrimental to interests relating to the company’s operations, while, on the other hand, the company’s position in principle regarding the derivative suit must not be ignored, especially when it is reasonable to assume that the company has an interest in “putting spokes in the wheels of the proceeding.” In such a case, therefore, the company must show that a certain course of action taken by the derivative plaintiff is highly likely to substantively cause irreversible grave damage to the company.