This article has been written by Rachit Bansal.
Mismanagement and oppression of minority shareholders by majority shareholders has always been a universal problem in the corporate sector. The domain of Indian Law has been proved to be limited to the extent of providing effective relief, more so, less equipped. Relief relating to oppression and mismanagement against any members of any company incorporated in India is dealt with Section 341 to Section 346 of the Act, which is pari materia to Section 397 and Section 399 respectively of the Act. However, the definition of oppression and mismanagement is not defined in the act and its interpretation is based solely on the court’s discretion as also held in the landmark case.
Oppression as interpreted by the Indian court is the “lack of probity or fair dealing with a member in the matter of his proprietary or legal rights as a shareholder.” While on one hand, the ambit of oppression was left on the interpretation of facts, on the other hand, the Court relied on the requirement of ‘position of dominance’ to form a case of oppression.
The Needle case has been the most relied authority, till date, in cases concerning oppression and mismanagement.
A glance at the background of the case
The case revolved around the conflict where the Indian Directors manhandled their curator position in the Company and acted in a mala fide way by deciding in the meeting, without proper communication to the holding company, to give the rights shares at par and by apportioning them only to the Indian investors. In the course of adjudication, some of the pertinent issues that were identified by the Hon’ble Supreme Court were as follows:
- Whether the Act of issuing right shares at a price much lower than the market price to the existing Indian shareholders only constituted an act of “oppression” against the Holding Company under S.397 of the Indian Companies Act, 1956?
- Whether there is an abuse of fiduciary powers by the Indian Stakeholders and whether the appointment of Silverstone as Additional Director in the board meeting is valid?
- Whether the court could decide a case, where there are allegations of mala fides and abuse of fiduciary powers, solely on the basis of affidavits and no oral evidence?
The jurisprudential evolution of ‘Oppression’
Section 397 of the Act, 1956 sets forth remedies against the oppressor. Its substantive part encloses an act that proves to be oppressive to some of the members of the company. This aspect in the Indian legal system can be traced back to Section 210 of the Act. Earlier the only remedy available, in case of a dispute between shareholders, was the winding up of the companies. The later position brought an alternate solution to winding up under Section 210, in terms of ‘oppression’ , as adopted by the Indian companies today. It was only upon the enactment of the 1956 Act, that due importance was given to the mode of oppression.
Over a while, if an act constituted an act of oppression or not, under the Indian Company laws, was decided by relying on a catena of judgments from the jurisdictions of other courts. The most frequently relied upon were the courts of UK and Scotland, where oppression was held to be just not one particular event or instance but a chain of circumstances that reflected the affairs of the company to be steered in a way that was “burdensome, harsh and wrongful to the minority shareholders of the company”.
While clarifying the meaning of oppression under Section 397, the court observed that the individual demurring of oppression must evince that he had to submit to the conduct which is unjustifiable, lack integrity, and was biased against him. If the duty is discharged by a Director who is careless and inefficient, that cannot be said to give rise to oppression. A mere act that is contrary to the law does not necessarily mean the act was performed with mala fide intention, and an isolated cannot be said to be oppressive unless it is done with mala fide intention.
Needle Industries laid down certain parameters to define the term oppression and held that any continuous act or omission will lead to oppression of the member if it is unfair, incorrect and prejudiced the exercise of the proprietary and legal right of that member. Further, the test of oppressive action does not depend upon the legality or illegality, whether the act would be regarded as oppressive depends entirely on the intention of the party alleged and the facts of the case. Perfectly legal conduct can hold to be ‘oppressive’ whereas conduct though illegal but in the interests of the company may not be regarded as ‘oppressive’. Accordingly, while decreeing oppressiveness, the courts need to consider the border aspect and the business real-time factors of the circumstance and not a limited legalistic scenario.
However, any act which prejudices the right of all members of the company, it cannot be said to be an unfair prejudice to the minority, therefore cannot be termed as oppressive.
The Apex court held that “Devagnanam and the disinterested Directors, having acted out of legal compulsion precipitated by the obstructive attitude of Coats and their action it being in the larger interest of the company, it is impossible to hold that the resolution passed in the meeting of April 6 for the issue of rights shares at par to the existing shareholders of NIIL constituted an act of oppression against the Holding Company.”
The interest of director vis-a-vis interest of the company
It was contended by the holding company that Silverstone was an interested director, consequently, his nomination as an additional director was contrary to the law. According to Section 300, no director can participate or vote in a board meeting if he is directly or indirectly interested in the contract or arrangement.
The problem existing between the shareholders and the class professional of the United States is a challenge and brings forth the concept of a disinterested director. The Kumar Mangalam Birla Committee Report asserted that the independent directors have “a key role in the entire mosaic of corporate governance” in India. Since the legal system of India is based upon common law rule, the idea of a disinterested director has been unquestionably accepted. Further, Section 299 of the Act incorporated the idea of a disinterested director and made it compulsory for the director to disclose his interest if any since a director stands in a fiduciary position and it is expected that his interest does not thwart his duty to pursue the best interest of the company.
The court, in this case, ruled that on development of Section 300(1) of the Companies Act, which discusses the interest and concern, it very well may be said that interest and concern can’t be an only ideological interest or ideological concern. Furthermore, the court remarked that “if the language of section 300 is stretched, it will close to impossible to bring Silverston’s appointment within the purview of that section.” Further, Section 260 of the Companies Act ensures the extent of the Board of Directors’ power to choose additional Directors, and the same authority is also conferred on the Board by the Articles of Association of the Company. NIIL’s Article of Association under Article 97 gives the basic ability to the Board to select adscititious Directors. Therefore, the assignment of Silverston can’t be said to be unlawful or invalid, further the court saw that the simple cordial relations with the Directors that are influenced straightforwardly by the issues/arrangements, don’t make that individual an intrigued person.
Further, the judgment pointed out that while determining the best interest of the company if the Directors are fortuitously profiting from that decision, then it can’t be inferred that the Director had mala fide intention. For this, the adjudicators relied on the case of Hogg v. Cramphorn Ltd. which set out that the Directors issuing shares to prevent the majority from exercising their power won’t hold the directors liable to have committed fraud and ruptured the fiduciary powers provided they had acted in bona fide for the best interest of the organization, regardless of the fact that they unexpectedly get profited from the same.
Thus, a precedent was set that so long the proprietary rights are not affected, a decision taken in a wrong way, but for the best interest of the company cannot be stuck down.
The Rule of Proper Purpose – The duty of Directors to act in the best interest of the company is based on the common law principle of proper purpose rule. This rule got legal sanctity through (Amendment) Act,. Section 171 of the amended act requires a director to exercise its power for the purpose which they are conferred. Since the position of a director is fiduciary in nature, the duty of a director to act in the best interest of the company is indubitable. The court reiterated the principle laid down in the Needlecase to keep the interest of the company at the paramount position and held that “In case of conflict between the interests of the company and the shareholders, the interest of the company was of paramount importance.”
The Rule Of Majority: a slow dilution
Majority Rule is one of the well-established features essential in the functioning and management of any company. The extinguishment of the role of minority shareholders in the company pave way for the majority shareholders, who then are able to function as per their own whims, and also ultimately reaping more benefits.
The court drew stark opinion in favour of the majority shareholders. It was observed that if the differences between minority and majority shareholders become irreconcilable, the prerogative lies in the hands of majority shareholders to purchase the shares of the minority. No circumstance can keep the majority shareholders on a lesser footing that they are compelled to sell their respective shares to minority shareholders. The rule of the supremacy of majority shareholders which has been set in Foss case was earlier said to be a pillar of company laws. But, the rule of the majority has never been free from abuse and misuse. The game of the corporate sector is massively prone to such abuse and misuse for a simple reason that it is always the quantitative value of shares that is considered and not the persons.
The judgment of the Needles case is an evolving phenomenon that diluted the old age principle of majority rule. This case held that the statutory duty of the court under sections 397/398 r/w section 402 of the Act, to majorly safeguard the interest of the company.
Arbitrability of oppression and mismanagement: A way ahead?
The National Company Law Tribunal has been vested with powers to adjudicate all disputes arising under the Act, 2013. In addition, provision 8 of the Arbitration Act further obliges courts to refer parties to arbitration where there exists an arbitration clause in the underlying contract.
The uncertainty surrounding the determination of arbitrability of disputes relating to Oppression and Mismanagement is characterised not by the absence of a definite test of arbitrability in India but by the ambiguity of the scope of a singular test. The test laid down in Booz Allen, that unlike disputes involving rights in rem, only disputes involving rights in personam are arbitrable is arguably the only proper test other than the public policy test. However, unlike the test of arbitrability based on public policy, the scope of interference as explained in Booz Allen is largely uncertain in as much as any right thereby arising from a right in rem will be subject to arbitration. The law is settled on the point that cases arising out of Oppression and Mismanagement will be resolved by the NCLT, by virtue of large powers vested in it, therefore attracting the statutory provisions making it binding on each party, an Arbitral Tribunal, on the other hand, being a private fora is not competent to award such remedies.
The concept of oppression and mismanagement though not a new concept but is an evolving concept. The Indian legislature and court from time to time, tried to define the aspect of oppression, and Needle Industries’ case is one of the steps to achieve the same. The case pointed out the obligation of the director to decide in best possible interest of the company and the statutory duty of the court under Sections 397/398 r/w Section 402 of the Act, is to majorly protect the welfare of the company which is now inserted in Section 279 of the Act.
The case is a stepping stone in commercial law and diluted the majority rule and held that interest of a company is above the interest of its shareholders either majority or minority. Though at the time there was no direct legal provision incorporating the principle of proper purpose but the case highlighted the common law principle and ruled that the directors are expected to perform his duty. Later the principle gets inserted in the Act.
The landmark judgment has set an example for the future of the company law in India and set authority on that subject. In several cases the courts reiterated the principle laid down in the Needle cases and held that in case regarding the dispute between shareholders and fiduciary position of the directors, the court must analyse the fact before adjudicating any act as oppressive.
LawSikho has created a telegram group for exchanging legal knowledge, referrals and various opportunities. You can click on this link and join: