Erlanger v New Sombrero Phosphate Co

Facts

• Erlanger purchased an island for 55,000 pounds.
• He formed a company and sold the island to the company for 110,000 pounds, making 55,000 pounds profit.
• The board that approved the purchase was not independent (promoter's nominees).
• The company later sought rescission.

Issue

1. Whether a promoter who sells property to the company at a profit owes a duty of disclosure, and whether non-disclosure to an independent board gives the company the right to rescind.

Held

• The House of Lords held that promoters stand in a fiduciary relation to the company. They must make full disclosure of all material facts (including personal profit) to an independent board. Disclosure to a board of the promoter's own nominees is no disclosure. The company is entitled to rescind the contract and recover the secret profit.

Ratio Decidendi

A promoter is in a fiduciary position toward the future company. They must disclose all material facts (especially profit) to genuinely independent directors. Disclosure to a board controlled by the promoter is not valid disclosure. Remedy: the company can rescind the transaction or affirm it and claim the secret profit.