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Protecting Minority Shareholder Rights: A Study Of Oppression And Mismanagement

A company, which is a legally recognized entity composed of individuals operating a business collectively, is governed by appropriate management and ownership structures. It is well-known that a company's management is entirely based on majority rule, but at the same time, the interests of the minority cannot be entirely disregarded. Let's be clear when talking about majority and minority that we refer to it as "the majority or minority voting strength".

The reason for this distinction is that a small group of shareholders may hold the majority shareholding. In contrast, the majority of shareholders may, among them, hold a very small percentage of share capital. After gaining control, those in the majority can exercise significant authority over the company with minimal oversight, as they hold superior voting power.

Even if their actions are questioned during general meetings, they tend to prevail due to their numerical advantage. Once a resolution is approved by the majority, it becomes legally binding on all members. Consequently, the court typically refrains from intervening to safeguard the interests of the minority affected by such resolutions.

This leads to situations where the interests of certain members of the company are disregarded and compromised due to the actions of directors or other authorities, leading to oppression and mismanagement. Therefore, to maintain a fair equilibrium among the various individuals involved in the management of a company, Chapter XVI of the Companies Act, 2013 (the "Act") addresses the prevention of oppression and mismanagement.

While we delve into the discussion of Oppression and Mismanagement in this article, it is crucial to quote the landmark judgment that established an exception to the dominance of the majority rule, i.e. cases of oppression and mismanagement.

What Is The Definition Of Oppression And Mismanagement?

The Act does not define the term oppression and mismanagement. Depending on the specifics of each case, the court interprets these phrases.

Lord Cooper explained the term "Oppression" in the case Elder v. Watson Ltd., 1952 SC 29 (Scotland)[1] as a misdemeanor committed by a majority shareholder against the company's minority shareholders. In simple language, the act of being subjected to cruel or unfair impositions is referred to as oppression.

In Dale and Carrington Investment Ltd. v. Prathapan & Ors.[2] the Supreme Court held that if a director endeavors to acquire a majority stake in the company by allocating shares to themselves, such conduct would constitute oppression.

"Mismanagement" on the other hand is the inadequate and biased handling of a company's affairs, leading to potential harm to both the public interest and the company itself. This term denotes the act of managing poorly or dishonestly, encompassing actions that deviate from fair and equitable practices within the organization. Such mismanagement can have adverse consequences for certain company members or shareholders, as it often involves favoritism and unethical conduct in the management of company operations.

Situations which can be termed as Mismanagement:
  • Prevention of directors of the company from functioning.
  • Violations of statutory provisions.
  • Contravention of the company's Memorandum of Association ("MOA") and Article of Association ("AOA") of the company.
  • Inappropriate utilization of funds, etc.

Majority Rule - Foss V. Harbottle:

In the case of Foss v. Harbottle, 1843[3], two minority shareholders, Richard Foss and Edward Starkie Praton, accused the company's directors of engaging in an unlawful transaction that caused significant losses. Specifically, the directors sold their land to the company at an inflated price, raising funds without proper authorization. However, when a company meeting was held, the majority of shareholders decided not to take legal action against the directors.

The court ruled against the minority shareholders, asserting that they were bound by the decisions made by the majority of shareholders. Additionally, the court argued that only the company itself could initiate legal proceedings, as it was a distinct legal entity. This decision laid down the "majority rule," stating that the majority of shareholders could make decisions on behalf of the company, and only the company itself could take legal action for wrongs committed against it.

Exception To The Majority Rule:

  1. Ultra vires acts:
  2. When the majority of shareholders act beyond their authorized powers, the majority rule should not be adhered to.
  3. Fraud on minority:
  4. This refers to actions that unfairly favor the majority shareholders over the minority shareholders. For this to be applicable, the majority's use of power must be unreasonable and result in significant losses for the minority shareholders. Thus, majority power should be exercised in good faith and for the benefit of the company.
  5. Actions requiring a special majority:
  6. If a company necessitates a special resolution for a particular decision but it is approved through an ordinary resolution, it can be legally challenged.
  7. Wrongdoers in control:
  8. When wrongdoing is evident within a company, and the majority shareholders decide not to allow legal action against those responsible, in such cases, the majority rule is relaxed in favor of minority shareholders and hence, this decision can be contested.
  9. Violation of Individual Membership Rights:
  10. Each shareholder holds specific entitlements to the company, such as receiving notices for general meetings, participating in voting, contesting for director positions, and claiming declared dividends. These rights are granted by the law and may be supplemented by the company's AOA. In cases involving these rights, the principle of majority rule cannot negate or infringe upon the individual rights of a member. If any individual member is denied these rights, they have the legal option to take the company to court.
  11. Exception in the Companies Act:
    1. Prevention of Oppression and Mismanagement:
    2. The majority rule doesn't apply when the majority misuses its power to oppress certain members or leads to mismanagement in the company. "Sections 241 to 244" of the Act protect in such cases.
    3. Class Action:
    4. A prescribed number of members can apply with the Tribunal, alleging that the company's affairs are being conducted in a manner prejudicial to the company's interests or its members. The Tribunal may grant appropriate reliefs to protect the rights and interests of minority shareholders under Section 245.

Pre-Requisites For Filing Application U/S 241 Of The Act:

The key pre-requisites include the following:
  1. Applicants must either hold a minimum of 1/10 of the company's issued share capital or represent at least 1/10 of its total members.
  2. Continuous membership of the company or holding the shares for at least six months before filling out the application is a requirement.
  3. Grounds for the application must be just and equitable, which includes oppression, prejudicial conduct, or mismanagement of the company.
  4. The application should be filed with the NCLT, which has the jurisdiction to handle oppression and mismanagement cases.
  5. The application must adhere to the specified format by NCLT rules and include the necessary filing fee.

Who Can Apply U/S 241 Of The Act?

Section 241 of the Act allows for any members of a company who believe that certain actions or changes within the company are detrimental, provided such member has a right to apply under Section 244, for an order under Chapter XVI of the Act. Here's a detailed breakdown of the key provisions:

A. Complaints by Members:
Subsection (1) allows any member of a company to approach the Tribunal with a complaint if they have concerns regarding the company's affairs. These concerns can be grouped into two categories:
  1. Conduct Prejudicial to Interests:
    Members can complain if they believe that the company's activities are being carried out in a manner that is harmful to the public interest, oppressive to them or other members, or prejudicial to the overall interests of the company.[4]
  2. Material Change:
    Members can also file a complaint if there has been a significant change in the management or control of the company. This change could be due to alterations in the Board of Directors, changes in managerial positions, shifts in ownership of company shares, changes in the company's membership (if it has no share capital), or any other significant change. The complaint should argue that this change is likely to result in the company's affairs being conducted in a prejudicial manner to its interests or the interests of its members.[5]
B. Central Government's Authority:
Subsection (2) gives the Central Government the authority to initiate proceedings with the Tribunal if it believes that the company's affairs are being conducted in a manner prejudicial to the public interest.[6] Such cases can be if the Central Government believes that-
  1. Any individual involved in the company's management is found to be engaged in fraudulent activities, misfeasance, persistent negligence, default in fulfilling their obligations, or a breach of trust.
  2. Proper business practices have not been followed.
  3. The company has been under the management of a person whose actions are likely to harm the interests of the trade and business to which the company belongs.
  4. The company has been managed by an individual to defraud creditors, members, or others for fraudulent or unlawful purposes or in a manner that is detrimental to the public interest.

[Note that applications under this subsection, concerning specific companies or categories of companies as prescribed, should be submitted to the Principal Bench of the Tribunal, which will handle them accordingly.]

Union of India v. Delhi Gymkhana Club (2021) Company Appeal (AT) No. 94 of 2020[7]
Another remarkable judgment relating to oppression and mismanagement was the 2021 judgment of Union of India v. Delhi Gymkhana Club[8]. In this case, the petition for oppression and mismanagement was filed by the Government of India under Section 241(2). The NCLAT discussed the scope of Section 241(2) and made the following observations:
  1. Central Government while filing a complaint under Section 241(2), is required to record its opinion as regards affairs of the company being conducted in a manner prejudicial to the public interest, and recording of such opinion is a sine qua non for applying to the Tribunal under Section 241(2).
  2. The Tribunal cannot review the sufficiency or otherwise of material based on which the government has formed its opinion, more so when no mala fide is attributed to the Central Government.
  3. The phrase 'public interest' cannot be stretched so far as to include all Indian citizens.[9] It would suffice if the rights, security, economic welfare, health, and safety of even a section of the society -like the candidates seeking membership from the category of common citizen- are affected even though they are only a few individuals.

Is The Proceedings U/S 241 Of The Act Time-Barred?

The statutory relief provided in Section 241-242 is a potent avenue for an aggrieved investor who has suffered harm to their interests. However, it is important to note that there is no set time limit for this procedure. The actions and remedies outlined in this statutory provision remain in effect until an interim or final resolution is granted.

Powers Of The Tribunal: Section 242

Section 242 of the Companies Act grants the Tribunal various powers and authority to issue orders as it deems appropriate. These orders may encompass:
  1. Regulating the company's future conduct.
  2. Facilitating the purchase of shares or interests of any members by other company members.
  3. Initiating a reduction in share capital if the company purchases its shares.
  4. Imposing limitations on the transfer and allotment of shares.
  5. Terminating, setting aside, or modifying agreements between the company and managing directors or other individuals. Such actions require due notice and consent from the concerned parties.
  6. Removing managing directors or other directors from their positions.
  7. Recovering undue gains acquired by managing directors, managers, or directors during their employment. The recovered funds are to be directed to the Investor Education and Protection Fund or repaid to identified victims.
  8. Outlining the procedure for appointing a new managing director following the removal of a previous director.
  9. Appointing members responsible for reporting to the Tribunal on matters as directed.
  10. Imposing costs as necessary.

Furthermore, the Tribunal possesses the authority to make any provisions it deems just and equitable.

Section 242(3), the company is obligated to submit a certified copy of the Tribunal's order to the Registrar within 30 days of the order being issued. Additionally, Section 242(4) empowers the Tribunal to pass interim orders to regulate the company's conduct.[10]

Section 242(4) of the Companies Act, 2013, the NCLT is empowered to issue any order it considers appropriate to manage the company's affairs. In specific situations, the tribunal may even instruct the appointment of an impartial administrator to supervise the company's operations throughout the proceedings.[11]

Section 242(4A), the Tribunal is required to clearly state whether the respondent is considered a suitable and proper person to manage the company's affairs. In cases of non-compliance with the Tribunal's orders, Section 242(8) stipulates that the company may be subject to fines ranging from one lakh rupees to twenty-five lakh rupees, and defaulting officers may face fines ranging from twenty-five thousand rupees to one lakh rupees.[12]

Recent Judgment:
In the recent Tata Consultancy Services Limited v. Cyrus Investments Pvt. Ltd. & Ors. 2021[13]. case, a significant ruling on oppression and mismanagement was made. This case centered on the removal of Mr. Cyrus Mistry from his non-executive director position on the Tata Sons board and directorship roles in various Tata Group companies. His removal was executed through board resolutions and shareholder meetings.

Subsequently, two companies, Cyrus Investments Private Limited and Sterling Investment Corporation Private Limited, which were controlled by Mr. Mistry and held shares in Tata Group companies, filed a complaint under Sections 241, 242, and 243 of the Companies Act. They alleged prejudice, oppression, and mismanagement.

Initially, the National Company Law Tribunal (NCLT) ruled that there was no oppression or mismanagement, considering a combination of factual and legal aspects. However, on appeal, the National Company Law Appellate Tribunal (NCLAT) overturned this decision and went a step further by reinstating Mr. Mistry as a director of Tata Sons and certain other Tata Group companies. Subsequently, various Tata Group companies filed appeals to the Supreme Court (SC), which were consolidated and collectively heard.

In its judgment, the Supreme Court clarified that
  • The mere removal of a director from their position is not sufficient to establish a case of oppression and mismanagement.
  • The NCLT has the authority to dismiss complaints based solely on director removal. However, it noted that relief under Section 242 of the Companies Act can be granted if the removal of a director is carried out by the law but is part of a broader scheme designed to oppress or prejudice the interests of certain members.
  • The winding up of a company due to oppression and mismanagement is warranted only when there is a justifiable lack of confidence in the company's conduct and management. A mere lack of confidence between majority and minority shareholders is not adequate grounds for such action.
  • The SC clarified that Sections 241 and 242 do not grant the Tribunal powers to reinstate directors, and the Tribunal's focus should be on past or ongoing conduct, not on apprehensions of future misconduct based on the company's Articles.

In conclusion, the discussion on oppression and mismanagement within the corporate context sheds light on the delicate balance between majority rule and the protection of minority interests. The majority's ability to wield significant authority in a company often leaves minority shareholders vulnerable to unfair practices and decisions. To address this concern, Chapter XVI of the Companies Act, 2013, serves as a crucial legal framework.

The absence of explicit definitions for oppression and mismanagement in the Act allows the courts to interpret these terms based on the circumstances of each case. Oppression is described as cruel or unfair treatment inflicted by the majority on the minority, while mismanagement pertains to the biased or inadequate handling of a company's affairs, potentially harming both the public interest and the company itself.

The historic case of Foss v. Harbottle established the principle of majority rule, emphasizing that only the company itself could initiate legal proceedings for wrongs committed against it. However, this majority rule is not absolute, as exceptions exist. These exceptions, such as ultra vires acts, fraud on the minority, and violations of individual membership rights, provide safeguards against the misuse of power by the majority.

Section 241 of the Act allows for the prevention of oppression and mismanagement, enabling members and even the Central Government to seek redress from the National Company Law Tribunal (NCLT). The NCLT possesses a wide range of powers under Section 242 to regulate a company's conduct and rectify oppressive or prejudicial actions.

In essence, the legal framework surrounding oppression and mismanagement strikes a balance between majority rule and minority protection, ensuring that all stakeholders' interests are safeguarded in the corporate landscape.

  1. 1952 SC 29 (Scotland)
  2. (2005) 1 SCC 212
  3. (1843) 2 Hare 461, 67 ER 189
  4. The Companies Act, 2013, Section 241
  5. 'id'
  6. 'id'
  7. Company Appeal (AT) No. 94 of 2020
  8. Supra 8
  9. The Companies Act, 2013, Section 242(3)
  10. The Companies Act, 2013, Section 242(4)
  11. The Companies Act, 2013, Section 242(4A)
  12. (2021) 9 SCC 449

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