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Oppression and Mismanagement – Statutory Remedies Under Section 402 of the Companies Act English Cases •

Ebrahimi v. Westbourne Galleries Ltd. [1973] AC 360.

•

Elder v. Elder, 1952 SC 49.

•

Estmanco (Kilner House) Ltd. v. Greater London Council¸[1982] 1 WLR 2.

•

Foss v. Harbottle[1843] 2 Hare 461.

•

In re A Company (No. 005287 of 1985), [1986] 1 WLR 281.

•

In re Bird v. Precision Bellows Ltd., [1986] 2 WLR 158.

•

In re H. R. Harmer Ltd. [1958] 3 All ER 689.

•

In re Saul D. Harrison & Sons PLC, [1995] 1 BCLC 14.

•

Re Charnley Davies Ltd.(No. 2), [1990] BCLC 760.

•

Re Five Minute Car Wash Services Ltd., [1966] 1 WLR 745.

•

Re Jermyn Street Turkish Baths Ltd., [1970] 1 WLR 1194.

•

Re Lundlie Brothers Ltd., [1965] 1 WLR 1050.

•

Scottish Co-operative Wholesale Society Ltd. v. Meyer[1958] 3 All ER 66.

•

Wallersteiner v. Moir, [1975] QB 373.

Indian Cases •

Bennet Coleman & Co. and Maula Chand & Anr. v. Union of India, MANU/MH/0134/1973.

•

Company Law Board v. Ganesh Flour Mills, MANU/DE/0127/1991; Manmohan Singh v. Balbir Singh, MANU/DE/131/1973.

•

Cosmosteels Private MANU/SC/0048/1977.

•

G. Hubert v. D. Sridharan, [2002] 40 SCL 331.

•

Jaipur Metals & Electricals v. P.S. Nanawati, [1991] 5 CLA 44 (Raj).

•

M Moorthy v. Driver MANU/TN/0081/1991.

•

Maharani Rajya Lakshmi v. Indian Motor Co. Ltd., [1962] 32 Comp. Cas. 207.

•

Manmohan Singh v. Balbir Singh, MANU/DE/131/1973.

Ltd.

and

Ors.

Construction

v.

Bus

Jairam

Service

Das

Pvt.

Gupta,

Ltd.,

•

Needle Industries (India) Ltd. v. Needle Industries Newey (India) Holding Ltd. and Ors., MANU/SC/0050/1981.

•

Pardhanani v. Pardhanani, [1990] 4 CLA 210.

•

Prabhakaran & Ors. MANU/TN/0215/1974.

v.

T.P.H.S.

Selva

Saroja

&

Ors.,

•

Prabhakaran & Ors. MANU/TN/0215/1974.

v.

T.P.H.S.

Selva

Saroja

&

Ors.,

•

Ragunath Swarup Mathur v. Har Swarup Mathur, MANU/UP//0117/1969.

•

Shanti Prasad Jain v. Kalinga Tubes, MANU/SC/041/1965.

•

Sheth Mohanlal Ganpatram v. Sayaji Jubilee Cotton and Jute Mills Co. Ltd., [1964] 34 Comp Cas 777 (Guj).

•

Siddaramappa Patil v. Ratna Cements Ltd., [1991] 5 CLA 38.

•

Srikant Datta Narasinmharaja v. Venkateswara Real Estate, [1990] 4 CLA 3 (Kar).

•

Synchron Machine Tools MANU/KA/0085/1992.

•

V. J. Thomas Vettom v. Kuttanad Rubber Co. Ltd., [1984] 56 Comp Cas 284 (Ker).

Pvt.

Ltd.

v.

U.

M.

Suresh

Rao,

Statutory Remedies Under Section 402- A Caselaw Analysis Introduction The rights of the shareholders within the company and the extent to which Courts can interfere in the internal affairs of the company have been subjects of study and intense academic debate for over a century now. One of the key issues of this debate has been the protection of minority rights in the face of oppression by the majority, the reason for the lack of consensus in this area is that generally company works on the principle of majority rule and therefore interference by the Courts for some act done by the majority is generally tantamount to interference with the affairs of the company, something which has invited great wrath among most Corporate law advocates and the Courts themselves have been reluctant to extend their jurisdiction to such extents. However, a balance has to be struck between excessive interference and protection of the rights of the shareholders. And a lot of the Corporate law debates of today centres around this central theme of finding the appropriate balance. Attached to this issue of enforcement of shareholder rights is the question of enforcement of shareholder rights when the company’s interests themselves are being harmed. Needless to say that any violation of the company’s interests will invariably lead to the violation of shareholder interests as well. In such cases, the Corporate can sue for such violation but an interesting predicament is reached if the company does not do so, then the most obvious solution would be to allow the shareholders whose rights are being affected to sue in Court. However, such an action would fly in the face of established corporate jurisprudence which treats

the company as a separate entity from that of its members and therefore the member should have no right to bring a suit in the name of the company. But such a strict adherence might give Companies and their management particularly to much freedom which might result in mismanagement. Countries around this world have therefore sought to remedy this anomaly by carving out statutory provisions which allow the members to sue in the name of the company, and also to empower the Courts to do adequate justice in case of such petitions. India, is no different in this regard and the Companies Act, 1956[1] provides for members to sue on behalf of the company in case of oppression and mismanagement in Sections 397 to 409. The researcher in this paper seeks to understand the scope of the statutory powers given to the Tribunal under Section 402[2]. While the Section broadly enumerates the powers of the Tribunal in case of petitions filed by the members, it would be pointless to understand the scope of this section in isolation as the wide powers specifically enumerated under Section 402 are meant to complement the general powers of the Tribunal which exists under Sections 397[3] and 398[4]. Therefore this research paper is not just a research into the powers of Tribunal under Section 402 but an analysis of the scope of statutory remedies which are available to the shareholder under the Act and the manner in which Courts have interpreted the ambit of the powers which the Tribunal has in dealing with such petitions. This research paper for conceptual clearance is divided into three sections. The first section is an investigation into the history of derivate litigation and the problems which ultimately resulted in the creation of statutory remedies. The second part of the research paper is an overview of the landmark cases which have been instrumental in defining the scope and ambit of the powers of the tribunal while dealing with 397 and 398 petitions. The final section deals with an investigation into the lacuna in the Indian law if any, and what can be done to better improve the oppressed shareholders access to justice. *** Derivative Action and Recourse under Common Law The existence of statutory provisions which allow the shareholders to sue on behalf of the company has largely been a result of the inadequacy of derivative litigation to deal with the problems of shareholders in case of oppression and mismanagement. Generally it is the duty of the management to look after the interests of the company and therefore decisions to litigate are generally taken by the management. However, it is possible sometimes for the members to bring an action to remedy a wrong done to the company or to compel the company to act in accordance with its Constitutional documents. When such action is brought, it is known as derivative action, as the petitioner is not seeking to redress a wrong done to him personally but to the company and the relief is sought against directors, third party or the oppressive members on the grounds that the company has an enforceable claim and the member’s right to sue is derived from it.[5] The derivative actions are not those where the shareholder sues as a representative of the other shareholders but refers to only those cases where the

right to sue is derived from that of the company.[6] The existence of such derivative action obviously could have given Courts a lot of scope for interference with the activities of the Company and it is probably with this fear that the Courts in England severely limited the scope of derivate actions in through the landmark judgement of Foss v. Harbottle[7] where the House of Lords held that the courts will not interfere with the affairs of the company and would not entertain a case of minority shareholders litigation if there was even a possibility of the majority ratifying the actions of the Company. The rule of Foss v. Harbottle has been looked upon with great anxiety as it greatly narrowed down the access of members to justice.[8] The Courts therefore subsequently sought to get around this rule by reading in certain exceptions to this rule like fraud on minority. However, there are several reasons because of which derivative actions are seldom instituted- firstly, members are at a serious informational disadvantage compared to the board and often they are not in the position to assess the strength of their claim. In financial terms, although the Court may order the company to fund derivative claims, the members have little incentive to pursue such a claim since, if successful the benefit goes to the company and the benefit of the member is that he might witness a rise in share prices.[9] Again it is quite possible to take up defences against derivative actions such as the suit is only the corporations cause of action, the complainant shareholder’s right in equity to maintain suit can be challenged, thirdly, the necessarily representative character of the complainant’s derivative action often results in intervention.[10] It must be realised that, in common law, the ability of a member to bring a derivative suit was conditioned by the ability of the petitioner to bring the case within one of the judicially created exceptions to the general rule laid down in Foss v. Harbottle, and these exceptions and their respective scopes were very ambiguous and therefore inadequate. It is to get over this rather unhappy position in common law that statutory provisions were made to allow shareholders to sue in the name of the company in case of oppression and mismanagement.[11] Having discussed the problems of derivative action, the researcher will in the next section look at the scope of statutory remedies available to an aggrieved shareholder under the Act, vide Sections 397-402, the researcher will be looking at various caselaw to understand the scope of the aforementioned sections and the extent of powers that have been vested with the Tribunal. *** Statutory Remedies under the Act- Caselaw Analysis Section 397[12] and Section 398 empower the Tribunal to with general powers if conditions mentioned under the respective sections are satisfied[13], while Section 402 supplements these general powers by enumerating certain specific powers of the Tribunal. Both sections 397 and 398 confer on the Tribunal very vast powers by allowing the Tribunal to “make such order it thinks fit” and even Section 402 is worded in wide language as it allows the Court to pass any order or make any provision if its is “just and equitable”[14]. In this section the researcher looks to understand the exact scope of the statutory remedies which are available to the members under these Sections.

Since Indian company law borrows in many respects from English Company law[15], it is imperative that we begin our investigation of the scope of statutory remedies by looking at some of the landmark decisions in England. While there is no consistent thread in the various judgements it can be safely said that the English Courts have abandoned their traditionally conservative approach towards allowing such petitions[16] by giving the provisions a wider interpretation, thereby increasing the access to justice. The first case is the landmark judgement of Scottish Co-operative Wholesale Society Ltd. v. Meyer[17]where it was held that recourse to Section 210, was possible when it was shown that the company was suffering damage and that remedy under the section was not barred in case of minor oppression. This judgment significantly increased the scope of the recourse available by watering down the requirement of proving that the company must be wound up.[18] However the decision of the Court has to be balanced against the decision subsequently in In re H. R. Harmer Ltd.[19], where the Court increased the standard of oppression, thereby limiting the availability of the recourse to members.[20] However, this debate was to a large extent put to rest in the House of Lords decision Ebrahimi v. Westbourne Galleries Ltd.,[21] where it was held that “just and equitable grounds” used in Section 210 cannot be confined to specific categories of situation and the Courts must be given wide powers, thereby rejecting the narrow interpretation of the statutory remedy available to oppressed shareholders.[22] In India it is well established that Section 397 is analogous to Section 210 of the English Companies Act, 1948[23] and recourse to the statutory remedies under Sections 397 and 398 is seen as alternative to the recourse of common law and therefore it does not have to be established that the case falls into one of the common law exceptions to the rule in Foss v. Harbottle.[24] Section 397 allows petitions if it is shown that the affairs of the company are being conducted in the manner oppressive to the members or prejudicial to the interests of the public.[25] While public interests has not been objectively defined, Courts have accepted the definition of oppression as laid down in Harmer’s case[26] and therefore the petitioner[27] has to show that the oppression is more then mere lack of confidence and the lack of fair dealing and probity has to be clearly established.[28]In addition to these preconditions, the Courts have held petitions will not be entertained if the petitioner does not come with clean hands[29] or if an application has been preferred to the Central Government under Sections 408 and 409 of the Act[30]. Additionally, it has to be a continuing act of oppression,[31] Sections 397 and 398 have no application when the act complained of is in the past.[32] Section 397 should be contrasted with Section 398 as the former looks to protect the shareholder while the latter applies in cases of prejudice to the company.[33] It is well established that the powers conferred on the tribunal under Section 397 and 398 are very vast and are conditioned only by the purpose for which it was exercised, in other words the exercise of power should be such that it would or prevent the happening of the event which would lead to oppression. [34] The powers under Section 397 and 398 read with Section 402 are construed as being adequate to deviate from the normal procedure laid down in the Act and

therefore the Tribunal is empowered by these Sections to do what the Act makes no provision for or even go contrary to the provisions of the Act, if it be deemed necessary by the Tribunal.[35] In exercise of these powers the Courts have always stressed on caution[36] However it must be noted that Section 402 is controlled by Sections 397 and 398 and as such it is not possible for the Tribunal under Section 402 to exceed the jurisdiction conferred by Section 397 and 398.[37] Even though the powers conferred are vast, they are not omnipotent and as such under Sections 397 and 398 the power of the Tribunal is limited to relieving shareholders from oppression and mismanagement and the powers under Section 402 are administrative in nature and the powers of the Tribunal cannot be extended beyond these two spheres, even the just and equitable clause mentioned in clause(g) of Section 402 should be interpreted in light of the purpose of Section 402 which was to provide directions for internal management.[38] This it is submitted is the correct interpretation of the powers under the Sections under discussion, because the object of introducing these sections was to provide alternate remedy to that available in common law. Technically speaking, section 402 is not required as the wide powers conferred on the Tribunal under Sections 397 and 398 are wide enough to include these powers, it is submitted that the reason for including Section 402 was that if such specific enumeration of the rights was not done, the Courts would look to common law to define their powers and be unnecessarily constrained and therefore the ability to control the internal management of the company had to specifically enumerated as it is an area to which Courts have traditionally shied away from. *** Developments and Avenues for Improvement Thus the Tribunal is vested with fairly vast powers under Sections 397, 398 read with Section 402, however in light of recent developments one must question the adequacy of these provisions. As mentioned earlier Section 397 of the Act is analogous to Section 210 of the 1948 Act, and therefore most of the interpretations of the powers thereof are derived from this Section. Section 210 was replaced as it was very problematic[39] and too restrictive in its scope[40]. Many of these restrictions exist in India even today, firstly single acts of oppression are not held to be adequate to justify remedy under Section 397[41]. Secondly, recourse is available only if the rights of the member are violated and not in any other capacity[42]. The Jenkins Committee Report recommended the removal of the word “oppression” and its replacement with the words “unfair prejudice” and this has been included in Section 459 of the Companies Act, 1985 in England.[43] It is now established in England that Section 459 should be widely interpreted[44], and while early decisions of English Courts under this Section also sought to read in the restrictions like restricting it to cases of oppression qua members, however these have been done away with and now petitions under Section 459 are not restricted to qua member. Again, Section 459 protects not just the rights but legitimate expectations.[45] Section 461 which outlines the powers of the

Court now allows the Court to direct the petitioner to initiate civil proceedings in the name of the company.[46] Thus the replacement of the word oppression with unfair prejudice has allowed Courts in England to allow petitions involving stray acts of oppression and to cover acts which need not be illegal or violation of legal rights.[47] *** Conclusion The statutory remedies available to a shareholder in case of oppression and mismanagement have evolved out of the inadequacies of the common law to deal sufficiently with the problem. Derivative action in common law was very limited and Courts were reluctant to entertain such petitions except on very narrow, albeit ambiguous, grounds as it would amount to interference with the affairs of the company. The rule of Foss v. Harbottle was therefore subverted by the introduction of statutory remedies in case of oppression and mismanagement; these remedies complement the existing common law remedies. In India, these statutory remedies are embodied in Sections 397 and 398 read with 402. The Act confers on the Tribunal vast powers for doing adequate justice if the petition is otherwise valid, Sections 397 and 398 confer very general powers on the Tribunal, while Section 402 enumerates specific administrative powers available with the Tribunal. However, the jurisdiction of the Tribunal is limited because of the limited forms of petitions which can be entertained under the present Sections, England has through Sections 459 and 461 conferred on its Courts wider powers, and it is submitted that India would do well to also adopt the legislative changes. The conflic...