Liberalization of the Indian economy saw the advent of a number of foreign investors desirous of taking advantage of the opportunities in the Indian market. Since the Indian market was a relatively unchartered territory, with its own distinctive practices and challenges, a majority of these foreign investors joined hands with existing Indian business houses. This proved to be a mutually beneficial arrangement with the foreign investors bringing in funds, technology, expertise and a global perspective while the Indian counterparts took care of the daily operations, having a local presence and experience. Additionally, the past two-three decades have seen big ventures with more than one domestic business joining hands to mutually benefit from such arrangements.

While these relationships mostly prove to be mutually beneficial, sometimes one of the parties finds itself being sidelined from the company’s management. In other cases, despite having adequate guardrails under contractual arrangements, investors discover instances of diversion/ misuse of company assets/ funds, at the behest of one of the partners. More often than not such a situation arises when the effective control over the company’s business and employees lies with one party, who is in control of the company’s ‘on ground’ operations.

In such a situation, the aggrieved shareholder has two primary options, namely, to trigger the contractual dispute resolution process, or approach the National Company Law Tribunal (“NCLT”), in terms of Section 241-242 of the Companies Act, 2013 (“Act”).

The choice of forum depends upon the nature of the breach, agreed understanding between the parties, and nature of reliefs the party intends to seek.

Action against oppression and mismanagement

Chapter XVI of the Act comprising of Sections 241- 246 contains the statutory provisions for preventing oppression and mismanagement in a company.

The Act does not specifically define ‘oppression’ or ‘mismanagement’. An aggrieved shareholder may approach the NCLT under Section 241 if it believes that the company’s affairs have been/ are conducted in a manner prejudicial to the interest of the company/ public or is prejudicial/ oppressive to it or any other member(s). Similarly, such an action may be initiated if the shareholder believes that there is a material change in the company’s management/ control, which is not in the interests of any creditors/ class of shareholders and may lead to the company’s affairs being conducted in a manner prejudicial to the interests of the company/ its members. This includes change in the Board, managers or change in the ownership of the company’s shares.

While the erstwhile Companies Act, 1956, restricted such remedy to acts which were continuing in nature, Section 241 permits such an action to be filed against past acts as well.

Scope of remedy

The language of Section 241 i.e. “Any member of a company who complains…”, restricts the remedy under Section 242 to only shareholders, that too, for raising grievances of violation of proprietary rights as a member and not in any other capacity, including as a director. This was recently reiterated by the Supreme Court in Tata Consultancy Services Limited vs. Cyrus Investments Private Limited and Ors.[1], which clarified that even a director’s removal cannot be held to be oppressive/ prejudicial.

The Act does not bar the majority shareholders from initiating such an action against the minority. Only qualifying criteria as provided under Section 244 is that the applicant must (a) hold not less than 1/10^th of the company’s issued share capital (all calls/ sum due for shares held to be paid); or (b) not less than 100 members or 1/10^th of the total members, whichever is less. If the company does not have share capital, applicants must not be less than 1/5^th of the total members.

The NCLT may however waive this requirement on an application being filed.

When will the NCLT interfere?   

In terms of Section 242, the NCLT may interfere if it is of the opinion that (a) the company’s affairs have been/ are being conducted in a manner prejudicial to any member(s) or public/ company’s interest; and (b) winding up the company would unfairly prejudice such member(s), even though facts justify winding up on just and equitable grounds.

The above test for the NCLT’s interference is high and stray/ lone acts though wrongful may not amount to oppression/ mismanagement nor will commercial misjudgment/ unwise investment decisions, unless such decision lacks fairness/ probity. The acts complained of must be recurring, burdensome, harsh and wrongful. The Supreme Court in Needle Industries (India) Ltd. v. Needle Industries Newey (India) Holding Ltd [2], clarified that “an unwise, inefficient or careless conduct of a Director in the performance of his duties cannot give rise to a claim for relief under that section.” The complainant must demonstrate that the conduct is unfair, lacking probity and prejudices the exercise of his legal/proprietary rights as a shareholder.

Similarly, mere lack of confidence between shareholders is not sufficient for the NCLT to act, unless it springs from oppression of a minority by the majority in the management of the company’s affairs. The Supreme Court in SP Jain v. Kalinga Tubes [3], further clarified that even then oppression must involve at least an element of lack of probity to a member in the matter of his proprietary rights as a shareholder.

The NCLT may interfere even if the act in question is permissible and legal under applicable law, till such time the conduct is oppressive. The Apex Court in V.S. Krishnan and Ors. vs. Westfort Hi-tech Hospital Ltd. and Ors.[4], held that categorization of an act as ‘oppressive’ would not be based on the legality thereof but whether it is against “probity, good conduct or is burdensome, harsh or wrong or is mala fide or for a collateral purpose”.

Reliefs which may be granted

Section 242 of the Act empowers the NCLT to pass such orders as it deems fit to bring an end to the misconduct complained of and provides an illustrative list of orders that may be passed. This includes orders for regulating conduct of the company’s affairs in the future, removal of the managing director, manager/any director(s), etc.

The NCLT’s power to grant reliefs is extremely wide. In fit cases, the NCLT’s order may be far reaching. As seen in the case of ILFS and its subsidiaries, the NCLT applied principles of insolvency to NBFCs at a time when the Insolvency and Bankruptcy Code, 2016 was not even applicable to NBFCs. This was in addition to other protective directions given by the NCLT, including sale of assets of the companies and freezing of personal bank accounts of directors and other interested parties [5].

Section 242(4) particularly empowers the NCLT to pass interim orders for regulating the company’s affairs, upon such terms and conditions as “appear to it to be just and equitable” to protect the company’s interests during the pendency of proceedings. Accordingly, this is an expeditious remedy available to secure interim safeguards to stop any leakages/ diversion of company’s assets.

Recourse to NCLT versus arbitration  

An arbitrator being a creature of contract, is bound by the scope of the parties’ arbitration agreement and reference of disputes made to such arbitrator. The NCLT on the other hand has a wide range of powers in terms of the Act, the most important being the power to grant just and equitable reliefs. Additionally, there is no restriction on the individuals who may be made a party to the said proceedings. The reliefs granted by the NCLT are also not restricted to certain individuals and may operate in rem.

Despite the existence of an arbitration agreement, an aggrieved shareholder may approach the NCLT if it can demonstrate that the concerns raised are not purely contractual in nature arising from the breach of the commercial understanding between the parties. Instead the issues raised relate to violation of the Act, which are prejudicial to the interest of the Company and its shareholders as a whole. Pertinently, the same are not limited to the contractual arrangement which contains the arbitration agreement.

It is pertinent however, that in such cases, if the NCLT on an application made by the counter party is satisfied that (a) the petition is mala fide, vexatious and dressed up as an action under Section 241-242 to oust an arbitration clause; (b) reliefs sought may be considered and resolved by a private arbitral tribunal; and (c) third parties have been arraigned only for avoiding arbitration and are not necessary parties to the proceedings, it may refer the matter for arbitration.[6]

Key takeaways:

The statutory remedy envisaged under Section 241-242, is an effective option for an aggrieved investor, whose interests have been prejudiced. It must however be borne in mind that while such an action may be effective, it is not a time bound process. While the aggrieved party during the pendency of such proceedings may approach the NCLT for interim protection, such interim reliefs as also the final reliefs, would be subject to an appeal.

Footnotes:

[1] (2021) 9 SCC 449

[2] (1981) 3 SCC 333

[3] AIR 1965 SC 1535

[4] (2008) 3 SCC 363

[5] Order dated December 3, 2018, Union of India, MCA vs. Infrastructure Leasing & Financial Services Ltd. & Ors., CP 3638/241-242/MB/2018.

[6] Rakesh Malhotra vs. Rajinder Malhotra, (2015) 2 CompLJ 288(Bom); Siddharth Gupta and Ors. vs. Getit Infoservices Private Limited, CA 128/C-II/2014 in CP 64(ND) 2014 ; Dhananjay Mishra vs. Dynatron Services Private Limited, (2019) 2014 CompCas 45.