-A LIMPID VIEW ON MINORITY PROTECTION RIGHTS UNDER INDIAN CORPORATE LAW
Sharon Pinto, Manager, firstname.lastname@example.org
The Ruling of the Supreme Court (SC) in this case has shed light on several important aspects related to majority versus the minority rule, oppression and mismanagement, role of Non-Executive Directors (NEDs), scope and powers of the Tribunal in providing relief to any matter under section 242 of the Companies Act, 2013.
This article critically discusses on the various aspects of principles of law emanating from the instant ruling.
Understanding the law relating to oppression and mismanagement under the present statute
Section 241 of the Companies Act, 2013 (‘Act, 2013’/ ‘Act’) provides that any member of a company who complains that:
(a) the affairs of the company have been or are being conducted in a manner prejudicial to public interest or oppressive to him or any other member or members or to the interests of the company; or
(b) the material change, not being a change brought about by, or in the interests of any class of shareholders of the company, has taken place in the management or control of the company, whether by an alteration in the Board of Directors, or manager, or in the ownership of the company’s shares, and that by reason of such change, it is likely that the affairs of the company will be conducted in a manner prejudicial to its interests or its members or any class of members, may apply to the Tribunal, provided such member has a right to apply under Section 244 of the Act.
Further, the Act under Section 244 specifies not less than one hundred members of the company or not less than one-tenth of the total number of its members, whichever is less, or any member or members holding not less than one tenth of the issued share capital of the company,
may make an application on the aforesaid grounds unless the said requirement is waived by the Tribunal on an application made by the applicant.
The Tribunal is empowered under the provision of Section 242 of the Act to make such order as it deems fit, on receipt of such an application, if it is of the opinion that:
a) the company’s affairs have been or are being conducted in a manner prejudicial or oppressive to any member or members or prejudicial to public interest or in a manner prejudicial to the interests of the company; and
(b) that to wind up the company would unfairly prejudice such member or members, but that otherwise the facts would justify the making of a winding-up order on the ground that it was just and equitable that the company should be wound up.
Points of law settled the Ruling
a. Grounds for oppression and mismanagement
By delving into the legislative history of oppression and mismanagement, the SC stated that prejudice to public interest and prejudice to the interests of any member or members were not among the parameters prescribed in the 1913 Act, but under the 1956 Act, prejudice to public interest was included both under the provision relating to oppression and also under the provision relating to mismanagement. Prejudice to the interest of the company was included only in the provision relating to mismanagement. Later, the Act, saw the clubbing of oppression and mismanagement under the same provision and general grounds prescribed are conduct –
- prejudicial to any member or members or
- prejudicial to public interest or
- prejudicial to the interest of the company or
- oppressive to any member or members.
The Honorable Court also noted the shift between the conduct of company’s affairs in a prejudicial manner as mentioned above to have been ‘present and continuing’ under the 1913 Act and 1956 Act, whereas, ‘past, present and a continuous’ conduct of affairs of the company can be considered under the present form of statute, although acts of distant past are not to be considered.
As per the provisions stated under the current statute, existence of a dual criteria for invoking oppression and mismanagement is a pre-requisite. Along with the prejudicial conduct of company’s affairs as stated above, the circumstances should be such that they form just and equitable grounds for the winding up of the company, although such winding up may cause unfair prejudice against the members. Thus, the onus of proof for establishing the aforementioned dual criteria rests on the members proposing a case of oppression and mismanagement. If the Tribunal is of the opinion that acts of the company have given rise to such a situation that requires giving such relief as mentioned under section 241 for disposing the matter without winding up of the company.
b. Scope of powers of the Tribunal
This ruling has shed significant light on the scope of the powers of the Tribunal prescribed under the Act. The Apex Court stated that the rights of the appellate tribunal are curtailed to the matters put forth before the NCLT at the time of the original petition. Therefore, no fresh matters can be decided by the NCLAT as it is not the original court of dispute. Further, NCLT is the final court of fact. Thus, the facts of the case taken up, confirmed or set aside by the NCLT cannot be questioned at the NCLAT, unless the same pertains to the question of law or have been specifically appealed against.
Sub-section (1) of section 242 of the Act states “the Tribunal may, with a view to bringing to an end the matters complained of, make such order as it thinks fit”. Thus, Section 242 confers the Tribunal with the power to make an order directing several actions. However it has been established under this ruling that such powers of the Tribunal are bound by the reliefs enlisted under the provisions and it may make any supplementary orders which are necessary for putting an end to the matters complained of and giving effect to the order made under the provision. Therefore it is beyond the scope of the Tribunal, under the garb of this provision, to make orders which are specifically barred by law under any other Act in force, for instance reinstatement of a director. It is also established that a contract of personal services cannot be enforced by the Tribunal and at the most it stands as an employment dispute. Further, it is beyond the powers of the Tribunal to set aside an article, unless an amendment of such article has amounted to prejudice or oppressive conduct against the members or the company, as the members of the company enter the company having read and agreed the terms of contract and cannot later question the same.
c. Removal of director as ground for oppression
Failed business decisions and the removal of a person from directorship cannot be projected as acts oppressive or prejudicial to the interests of the minorities. Even in cases where the Tribunal finds that the removal of a Director was not in accordance with law or was not justified on facts, the Tribunal cannot grant a relief under Section 242 unless the removal was oppressive or prejudicial. Thus it has to be established that such a removal has amounted to oppression and unfair prejudice to the interests of the minority shareholders or the company, irrespective of the legality of the removal.
Further, mere acts of removal of an executive chairperson or a director from the company cannot be considered to trigger the basis for just and equitable grounds for winding up of the company. The SC referred to the case of Hanuman Prasad Bagri & Ors. vs. Bagress Cereals Pvt; (2001) 4 SCC 420. Ltd. The removal of director which has not been made in accordance with law or is not justified by the facts and made with the intent to oppress or prejudice the interests of some members may provide for relief under section 242 of the Act.
The Apex Court further stated that in the given case, since the position of Executive Chairman is not recognized by law, the removal was not required to be executed at a general meeting. While the SC took this view, however, the attention of the SC was not drawn to the fact that whether a person is designated as such or not, on being an executive chairperson, it is a general practice to designate one of the directors as an executive chairperson as per the Articles of the company and therefore, attract compliance under Section 196 and Section 169 of the Act.
d. Tabled items at the meeting of the board
The law provides for certain items not expressly stated in the agenda, which is circulated prior to the board meeting to be taken up at the meeting itself with the consent of majority of the directors. Citing the judgment in the case of M.I. Builders Pvt. Limited vs. Radhey Shyam Sahu & Others, the stance of the SC remained unclear on whether any important items which necessitate deliberations and consultation of the directors can be tabled at the meeting as per the provision, it is an important question to ponder upon. The requirement of sending an adequate notice with the items to be discussed is an important requirement, so as to enable the directors to consider and plan their schedule as well as action to attend and participate in the meeting. Thus it may be detrimental to the company if an important agenda item is tabled at the meeting with no prior intimation given to the directors.
e. Scope of a just and equitable cause in the context of a quasi-partnership principles
In order to invoke an order under the provision for oppression and mismanagement there is a necessity of just and equitable grounds amounting to winding up of the company. The SC established by various judgments that such grounds can be said to exist when there is a justifiable lack of confidence in the conduct and management of the company’s affairs. The concept of just and equitable grounds flows from the Law of Partnership and has its roots in probity, good faith and mutual confidence. However for imposing that the organization is in fact in the form of a quasi-partnership, the same has to be properly established in the pleadings. A company however small or domestic cannot per se, be considered a quasi-partnership and shall remain to be a company, the members of which have subscribed to the articles and agreed to conduct business together.
A better understanding of the grounds that would make a just and equitable cause for winding up of the company can be drawn from the case decided by the House of Lords in the matter of Lau V. Chu, where it was established that a situation of a functional deadlock where the members have lost faith in the ability of the management to conduct affairs of the company, leading to frustration in the shareholders in a manner that the company cannot operate tantamount to such a just and equitable cause, irrespective of whether the structure of the company is that of a quasi-partnership or not. On the other hand, in cases where a breakdown of faith between members is proposed as a ground purporting winding up, without the existence of a management deadlock, it is necessary to establish that there exists a quasi-partnership which is based on mutual faith among the partner as suggested earlier.
f. Validity of expulsion clause under the Articles
A person who willingly becomes a shareholder and thereby subscribes to the Articles of Association (AoA) and who was a willing and consenting party to the amendments carried out to those Articles, cannot later on challenge those Articles. The same would tantamount to requesting the Court to rewrite a contract to which he became a party with eyes wide open. Since the SC has not held the power of the company to pass a special resolution for enforcing transfer of shares of a member (expulsion clause) under the AoA to be illegal, there should not be any question on considering it to be illegal. It has been established that unless such clause has been inserted as an amendment in a manner prejudicial to the rights of certain members of the company, the same cannot be contested against. It should also be noted that it is beyond the powers of the Tribunal to restrict or set aside any articles of the company.
g. Affirmative rights of section of investors – does it conflict with the board derogative to manage the company
It was held that, affirmative voting rights for the nominees of institutions which hold majority of shares in companies have always been accepted and recognized globally. Therefore, an article empowering nominated directors with such rights was not ruled out by the court. This view was based on the fact that if an institution happens to be a shareholder, and a notice of a meeting either of the Board or of the General body is issued, pre-consultation is justified for the institution to have an idea about the stand to be taken by them in the forthcoming meeting. However, the same poses serious questions on the independence of the directors and disposal of independent judgement as is required under the provision of Section 166 of the Act. The view of the court in this matter is such that not all directors are required to be independent, as they may represent the interest of their nominators. Nevertheless, it is to be understood that such nominated directors have dual fiduciary duty towards the institution as well as towards the company and the same has to be balanced. Further in case of a clash between the two, the statute can be interpreted such that the company’s interest shall override the interest of the investor institute as enshrined under the duties of a director.
Our other related write-ups dealing with accustomed to act are as follows:
- Customary puppets: Meaning of Companies Act expression “accustomed to act”;
- SEBI aborts brightening of fine lines of controlDual responsibility of Nominee Directors
It is the duty of every director irrespective whether they are appointed as Independent Directors under Section 149 of the Act or as appointees of certain shareholders or institutions as per the provisions of Section 152, to uphold the interest of the company and all the stakeholders at large. The position of nominee directors of the company was established by referring the judgments given in Re: Neath Rugby Limited and Central Bank of Ecuador and others vs. Conticorp SA and others (Bahamas), However, as discussed before, it cannot be denied that the nominee directors have dual fiduciary duties – one of which is the shareholder which nominated them and the other, is the company on whose Board they are nominated. While balancing the two, they have to ascertain that the interests of the company at large are safe-guarded and thus the company’s interest would triumph over the interest of the nominator institute. The nominee directors are therefore required to ensure both public and private interest while disposing their functions as directors. However, carrying this dual responsibility, they cannot be considered devoid of having an independent opinion as the same would contradict the basic duties of a director irrespective of the manner of appointment of such a director and may result in a detrimental situation for the company.
The ruling has clarified various important questions of law as discussed above, although there exist certain areas not touched upon by the court which would require further interpretation and rulings. While the burden of proof lies on the members claiming a relief under the provisions of the oppression and mismanagement, the Tribunal is required to exercise utmost care as to fulfillment of the requirement as intended behind the provisions. The essence of the provision is the existence of malafide actions of the management and conduct of affairs of the company in an unfair and prejudicial manner, which when evidenced can be sought relief against without winding up the company. Further, directors and management of the company have the primary responsibility of protecting the rights of the company, while balancing between profit and probity and the same cannot be compromised.