This article is written by Abu Ali, a student from WBNUJS, Kolkata.
Squeezing out of minority shareholders has been quite a controversial issue in the management of a company in and out of the Court. This issue of squeezing out of a certain category of shareholders in a company is a manifestation of the concept of the wielding of power within the corporate set-up. This process can be understood as a tool used by the majority shareholders to gain more control over the company thereby reducing the rights of the minority shareholders. This article shall focus on squeezing out minority shareholders in light of Oppression and Mismanagement under the Companies Act, 2013. The topic shall be dealt with in four parts. Firstly, the reader would be introduced to concepts relating to squeeze out. Secondly, a brief discussion would ensue on Oppression and Mismanagement under the Companies Act, 2013. Thirdly, different modes of squeezing out shall be deliberated upon with the help of analysis of landmark cases. Fourthly, having introduced the reader to the entire process of squeezing out, the remedies available to the aggrieved party and the powers of the appropriate tribunal shall be discussed. Lastly, a brief analysis of cases would be done.
In any corporate structure, all the decisions are arrived at democratically, and the company is managed following the Rule of Majority. As the name itself suggests, the Rule of Majority more often than not disregards the view of the minority shareholders. A question then arises as to who a minority shareholder is. How are they defined? Neither the Companies Act, 2013 nor does any other law define them. However, the Companies Act, 1956 does define the parameters to categorise them as such. Under S. 395 and S. 399 of Companies Act, 1956 and S. 235 and S. 244 of Companies Act, 2013, minority shareholders have been defined in different ways. For example, in a case where a company has a share capital (i.e., a company limited by shares), minority shareholders have been laid out as “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…” whereas in case of a company not having a share capital, “not less than one-fifth of the total number of its members.” Putting aside the detailed numerical description, a minority shareholder of a company is one who does not enjoy the voting power of the company by virtue of their below fifty percent ownership of the company’s capital (see here)
Much like minority shareholders, Oppression and Mismanagement, too, have not been defined under the Companies Act, 2013. However, S. 397(1) and 398(1) of Companies Act, 1956 describe Oppression and Mismanagement, respectively. The provisions define oppression as an instance ‘when the affairs of the company are being carried out in prejudicial manner vis-à-vis public interest or in a manner that is oppressive to any member(s)’ and mismanagement as ‘conducting of affairs of a company in a prejudicial manner vis-à-vis public interest or interests of the company or a situation where there is a material change in the management and control of the company as a result of which the affairs of the company would probably be so conducted as would be prejudicial to public interest or the interests of the company.’
Without delving more into the intricacies of Oppression and Mismanagement, let us see what squeezing out means and then understand it in the context of the former. A squeeze-out is a situation wherein the majority or the controllerenters into a transaction by virtue of which the remaining shares held by the minority shareholders are compulsorily acquired by way of one or more methods. Squeezing out is a practice adopted by the controller in the corporate machinery which forces the minority shareholders to accept a pre-determined price for the shares they hold and exit. Another inclusive definition of a squeeze out is “where the minority shareholders are squeezed out or hauled of their shareholding in the transferor organization by the majority shareholders by buying their stake despite the contradiction by the minorities.”(see here) This practice has increased especially in India over the last decade followed by a lot of media coverage and discussions. There are various methods by which a squeeze-out is done. The process of squeezing out is varied in India. Some of them are as follows:
- Simple acquisition of shares: Herein, the controller (i.e., majority shareholder) acquires the shares of the minority shareholders by compensating them in cash as a consideration for their giving up of the shares held by them. This is a general contract involving only two parties (The minorities and the controller/majority) with no external and direct intervention of and by the company. Also, if the minority shareholder whose share is being squeezed out fails to apply to the Tribunal within a month of receipt of notice of acquisition, the transferee would be entitled to acquire the shares of the dissenting minority shareholders.
A landmark case in this context is AIG (Mauritius) LLC v. Goodbye Televentures (Holding) Ltd. (see here) The issue, in this case, was that the company was inviting offers for shares comprising 90% or more amount of capital of the organisation while the remaining shares would be obtained at similar rates. The Court opined that the majority could not expel the minority availing this mechanism.
Parties involved: Minority shareholder and controller.
- Acquisition and cancellation of shares: By this method, the company acquires and cancels the shares held by the minority shareholders in a way that the company’s share capital is reduced. This results in the controller becoming the sole shareholder of the company. In this situation, the controller does not have a direct role to play except where it uses its voting power in the capacity of a majority shareholder.
Parties involved: Company and minority shareholders.
- Merger: The controller may decide to merge the company with itself resulting in the minority shareholders getting cash for the shares held by them.
Parties involved: This is a tripartite arrangement between two companies on the one side viz. the controller and the original company and the shareholders of the original company.
- Reduction of share capital: By virtue of this method, the paid up share capital of the company can be reduced by taking care of the interests of the minority shareholders. Such a reduction in the share capital, however, must be passed by a special resolution subsequently affirmed by the NCLT.
The relevant case in this regard is Chetan Cholera vs. Rockwool (See here). The Court observed and was reproachful of the fact that Indian companies often use this strategy to exclude and expel the minorities.
- Suo moto offer by minority shareholders: Under Section 236(3) of the Act, the minority shareholders can make an offer to the majority shareholders to buy their shares
- Negotiation deal: Under Section 236(8) of the Act, there can be a bargain between the acquirer and the minority shareholders. Under this arrangement, the majority shareholders are made to share the extra amount by virtue of which they owned a stake of 90% from a stake of 75% in the transferor organization.
One common element that is found in all the three methods discussed above is that the controller “starts with a majority shareholding and ends with complete control over a company or its business.” (see here) In all the methods of squeezing out, the controller determines “the timing and price of the squeeze-out, even against the wishes of the minorities, because in most jurisdictions approving a squeeze-out only requires a majority vote in its favour – which a controller can usually manage.”
Knowing how the controller exercises a great deal of power, it is indispensable for us to not look at the landmark judgment of Foss v. Harbottle, which laid the origin of the majority rule. Brief facts of the case are that action was instituted by two shareholders a company, Foss and Turton, on their own behalf and all the other shareholders. The suit was instituted against the directors and the solicitor of the company alleging that they had, by way of concert and illegal transactions, caused a loss in the company’s property.
Foss and Turton alleged that the directors had concerted and entered into illegal transactions whereby the company’s property was misapplied and wasted. They further argued that the defendants i.e. the directors be compelled to make good the losses they had caused to the company. The question, in this case, was that of its maintainability. The Court held against Foss and Turton, in that the action could not be brought about by the minority shareholders. The Court further reasoned that the wrongful acts done and the loss that was incurred by the company was one that was capable of being ratified by the majority shareholders. Thus, only the company can bring about a claim for any wrong done to the company, and the company, in turn, operates through the majority shareholders and that they should be left to decide the commencement of any proceedings against the directors. The equivalent case law in India is Rajahmundry Electric Supply Co. v. Nageshwara Rao (see here). In this case, the Apex Court held as follows:
“The Courts will not, in general, intervene at the instance of shareholders in matters of internal administration, and will not interfere with the management of the company by its directors so long as they are acting within the powers conferred on them under articles of the company. Moreover, if the directors are supported by the majority shareholders in what they do, the minority shareholders can, in general, do nothing about it.”
Per the general rule as laid down in that case and other cases in India as well (see here), the majority shareholders reserve the right to run and manage the affairs of the company and that they prevail and bind the minority shareholders. The relevant portion of the judgment may be reproduced as follows:
“It is only necessary to refer to the clauses of the Act to show that, while the supreme governing body, the proprietors at a special general meeting assembled, retain the power of exercising the functions conferred upon them by the Act of Incorporation, it cannot be competent to individual corporates to sue in the manner proposed by the Plaintiffs.”
Looking at it from the other side, this would also mean that the majority shareholders have the upper hand in the general meeting as well. Hence, the rights of the majority shareholders prevail over those of the minority and very often this leads to their violation of rights. This case did not provide the minority shareholders any remedy or protection to the minority shareholders to initiate a suit. The law does not allow an individual shareholder to bring about a case in case of any irregularity. Since the interest of the majority is given more weightage, Courts are often reluctant to meddle in the private affairs of the company (See here). However, there are certain exceptions to this rule as well:
- Where the act is ultra vires;
- Where there is a need for a special majority;
- Where there is an infringement of personal rights;
- In the case where fraud is committed by those in control.
The situation in India was pretty much the same under the Companies Act, 1956 in that it provided only a few redressal mechanisms for the minority shareholders in case of oppressive accts against them by the majority shareholders and it was very easy to squeeze the minority shareholders out from the decision making process of the company (see here). The new Companies Act, 2013 was introduced to address the shortcoming of the old Act of 1956. Under the new Companies Act, 2013, the relief in case of oppression and mismanagement is provided under Sections 241-246 whereby the aggrieved party may approach the National Company Law Tribunal. It must be remembered that the numerical criteria for a minority shareholder remain unchanged. However, a new concept called ‘class-action suits’ has been introduced in the new law.
Interplay between oppression and mismanagement and squeezing out
Having introduced the reader to the concept of oppression and mismanagement and squeezing out, we shall now discuss the interplay between them. We know that the Courts would not delve into a matter where the minority is affected by the lawful acts of the majority. However, if the acts of the majority are such that they are prejudicial to the interests of the company, or if they are against the public interest, in that case, the Companies Act, 2013 enlists the provisions (Sections 241-246) relating to oppression and mismanagement of a company. Sections 241 states that in case of oppression and mismanagement, relief can be sought by the aggrieved party by making an application to the Tribunal. This right to move an application to the Tribunal under Section 241 is provided for under Section 244(1) wherein the definition of a minority is the same as given in Companies Act, 1956. Departing from the hard and fast rule of the 1956 Act, the new Act provides for waiving off of any or all requirements and also does away with the numerical requirements of a minimum number of shareholders and/or members to claim relief. The new Act shifted the discretion from the Central Government to the Tribunal which is good in a way.
Comparative study of the changes in the Act 1956 and 2013 in light of Oppression and Mismanagement
The following are the changes in the Act vis-à-vis the old Act:
- Application for relief to Tribunal: Sections 397 and 398 of the Companies Act, 1956 jointly form Section 241 of the Companies Act, 2013. Consequently, all applications for relief in cases of oppression and mismanagement would be directed to the Tribunal (see here).
- Grant of additional powers to Tribunal: Under the 1956 Act, the powers of the Tribunal were restricted, the 2013 Act granted additional powers to the Tribunal in cases involving:
- Restrictions on the transfer or allotment of shares of the company [Companies Act, 2013, S. 242(2)(d)];
- Recovery of undue gains made by any managing director, manager or director during the period of his appointment as such and the manner of utilisation of the recovery including transfer to Investor Education and Protection Fund or repayment to identifiable victims [Companies Act, 2013, S. 242(2)(i)];
- Removal of the managing director, manager or any of the directors of the company [Companies Act, 2013, S. 242(2)(h)];
- The manner in which the managing director or manager of the company may be appointed after an order removing the existing managing director or manager of the company [Companies Act, 2013, S. 242(2)(j)] ;
- Appointment of such number of persons as directors, who may be required by the Tribunal to report to the Tribunal on such matters as the Tribunal may direct [Companies Act, 2013, S. 242(2)(k)] ; and
- Imposition of costs as may be deemed fit by the Tribunal [Companies Act, 2013, S. 242(2) (l)].
- Waiving off certain requirements: The 2013 Act departed from the requirement of satisfying the Court of the existence of ‘just and equitable’ circumstances in order that some or all requirements may be waived off. Even the requirement of providing security has been done away with in the new Act, 2013.
- Class action: The concept of class action, which was initially absent in the old Act of 1956, was introduced in the new Act of 2013 by virtue of Section 245. Section 245(1) provided for a category of persons who can bring an application before the Tribunal if the facts of the situation are such that the persons are of the opinion that the company is being managed in a way that prejudices its interests or is prejudicial to the interests of the members or depositors. However, what remains undefined is who is a depositor under the Companies Act, 2013.
- Fair pricing: As discussed earlier, Section 395 of the Companies Act, 1956 provided for compulsory acquisition by the majority shareholders of a company. Section 236 of the Companies Act, 2013 provided a remedy for this situation. In case where there is an acquisition, and the acquirer holds 90% or more of the issued share capital of the company or where a person or a group of persons become a majority by holding 90% of the issued share capital of the company by means of amalgamation or by any other means, then such person or a group of persons shall mandatorily notify the company of their intention of buying the remaining equity shares (see here). Section 235 of the Companies Act, 2013 states that the majority shareholder can acquire the share of the dissenting shareholders under a scheme whereby notice is sent to the dissenting shareholders from a majority of not less than 9/10 in value of shares. S. 236(2) of the Companies Act, 2013 further provides for the subsequent pricing of the acquired shares, the price of which would be determined by a registered valuer. The inclusion of a ‘registered valuer’ ensured fairness towards the minority shareholders. This gives an assurance to the minority shareholders that they would not be squeezed out without being given a fair and just value for the acquisition of their shares.
The new Companies Act, 2013 thus provides for the protection of the minority shareholders and takes away the harsh powers exerted by the majority shareholders thereby protecting the interest of the company and its minority shareholders by providing for various forms of remedies either in the form of representative or class action suits or by way of using personal rights only as a member of the company and in no other capacity.
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