May 11, 2011
Remedial Measures under the Companies Act, 1956 for Prevention of Oppression and Mismanagement (Section 397 and 398 of the Companies Act 1956)
Posted on Wednesday, May 11, 2011 by DEVESH PANDEY
Remedial Measures under the Companies Act, 1956 for Prevention of Oppression and Mismanagement
A Company functions through its Board of Directors who is guided by the wishes of majority. Prima facia a majority of members of a company are entitle to exercise the powers of a company and generally to control its affairs. It has also been pointed out in earlier cases like in Foss Vs Harbottle it was held that every member holds equal rights and in case of differences issue is decided by majority and the court should not interfere with the internal management of the company. But sometimes majority in the company misuses its powers conferred by the act. Every shareholder is entitled for certain rights in the Company and at the same time, the rights of majority in a Company should not be ignored. There should be a good balance between the exercising powers of the majority in a Company and the rights of minority shareholders. The majority should not be allowed to oppress the minority and mismanage the company’s properties. The Act provides a relief to the minority from the Company Law Board/ Tribunal and the minority can approach the Company Law Board/ Tribunal seeking various reliefs against the Company or the majority in a Company when the majority in a company exceeds their limits oppresses the minority and mismanages the company’s properties.
Meaning of Oppression
Section 397 of the companies act, 1956 provides relief to the oppressed minority. Basically oppression means exercise of power in an unjust manner. The law has not defined oppression for purposes of this section, and it is left to Courts to decide on the facts of each case whether there “oppression” under section 397 has been committed or not. Although the word ‘oppressive is not defined, it is possible, by way of illustration, to figure a situation in which majority shareholders, by an abuse of their predominant voting power, are’ treating the company and its affairs as if they were their own property’ to the prejudice of the minority share-holders. In Scottish Co-operative Whole Sale Society Ltd. v. Meyer (1958) 3 All ER 66 (HL)) it was held that oppression is the lack of probity and fair dealing in the affairs of a company to the prejudice of some portion of its members or to public interest. In Elder v. Elder & Watson Ltd., oppression has been defined as ““…the conduct complained of should at the lowest involve a visible departure from the standards of fair dealing, and a violation of the conditions of fair play on which every shareholder who entrusts his money to the company is entitled to rely.” The oppressed minority has to show the conduct which is unfair to him and causes prejudice to him in the exercise of his legal and proprietary rights as a shareholder.
Remedies under Section 397: -
Under section 397 the members of a company who comply with the conditions of Section 399 can make an application to the Court for relief under Section 402 of the Act if the affairs of a company are being conducted in a manner oppressive to any member or members including any one or more of those applying. The Court has power to make such orders under section 397 read with section 402 as it thinks fit, if it comes to the conclusion that –
1) the company’s affairs are being conducted in a manner prejudicial to public interest or in a manner oppressive of any member or members; and
2) the facts would justify the making of a winding up order on the ground that it was just and equitable that the company should be wound up, and
3) That to wind up the company would unfairly prejudice the petitioners.
Relief under Section 397 Not Available under the following situations:
1) Where there are minor acts of mismanagement e.g. where passengers traveling without tickets on a company’s buses were not checked or where the petrol consumption by a transport company was excessive. Negligence & inefficiency, even assuming that these are proved, do not amount to oppression or mismanagement as contemplated by the act. [Mohta Bros. Vs Calcutta Landing & Shipping Limited]
2) Where a shareholder holding 30% of shares of a company is denied access to or inspection of books of accounts of the company. This is because this right is recognized by the Companies Act. [Lalita Rajya Laxmi Vs. India Motor Company]
Meaning of Mismanagement
Generally if the affairs of a company are being running by the Board in a manner which is prejudicial to the interest of the company or to the public it is said to be mismanaged. In Re, Albert David (1964) CWN 163, 172 it was held that if a company was being run by the Board in their own interest overriding the wishes and interest of the majority of shareholders is deemed to be mismanagement. Courts have also ruled that erosion of a company’s substratum, abuse of fiduciary duties, and misuse of funds are all instances of mismanagement that come within the ambit of section 398.
Relief under Section 398: -
A requisite number of members (as laid down in sec. 399) may apply to the Company Law Board/ Tribunal for an order under this section and the Company Law Board/ Tribunal may grant relief. This section states that:
1) Any members of a company who complain:
a) that the affairs of the company are being conducted in a manner prejudicial to public interest or in a manner prejudicial to the interests of the company; or
b) that a material change not being a change brought about by, or in the interests of, any creditors including debenture-holders, or any class of shareholders, of the company has taken place in the management or control of the company whether by an alteration in its Board of Directors, or manager or in the ownership of the company’s shares, or if it has no share capital, in its membership, or in any other manner whatsoever, and that by reason of such change, it is likely that the affairs of the company will be conducted in a manner prejudicial to public interest or in a manner prejudicial to the interests of the company,
may apply to the Company Law Board/ Tribunal for an order under this section, provided such members have a right so to apply in virtue of section 399.
2) If, on any application under sub-section (1), the Company Law Board/ Tribunal is of opinion that the affairs of the company are being conducted as aforesaid or that by reason of any material change as aforesaid in the management or control of the company, it is likely that the affairs of the company will be conducted as aforesaid, the Company Law Board/ Tribunal may, with a view to bringing to an end or preventing the matters complained of or apprehended, make such order as it thinks fit.
Persons Entitle to Apply: - [Section 399]
(1) The following members of a company shall have the right to apply under section 397 or 398:-
(a) In the case of a company having a share capital, 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 members or members holding not less than one-tenth of the issued share capital of the company, provided that the applicant or applicants have paid all calls and other sums due on their shares;
(b) In the case of a company not having a share capital, not less than one-fifth of the total number of its members.
(3) Where any members of a company are entitled to make an application in virtue of sub-section (1), any one or more of them having obtained the consent in writing of the rest, may make the application on behalf and for the benefit of all of them.
(4) The Central Government may, if in its opinion circumstances exist which make it just and equitable so to do, authorize any member or members of the company to apply to the Company Law Board/ Tribunal under section 397 or 398, notwithstanding that the requirements of clause (a) or clause (b), as the case may be, of sub-section (1) are not fulfilled.
Powers of Company Law Board/ Tribunal [Section 420]
Under section 397 and 398 the CLB/Tribunal has all the necessary powers to end oppression as well as prevent management of the company. Section 402 further lay down that an order under section 397 or 398 may provide for:
1) The regulation of the conduct of the company’s affairs in future. [Richardson & Cruddas Ltd. Vs Hardas Mundra]
2) The purchase of the shares of any member of the company by the company.
3) In the case of purchase of the shares by the company, consequent reduction of its share capital.
4) The termination, setting aside or modification of an agreement between the company and managing director, or any other director, and manager.
5) The termination, setting aside or modification of any agreement with any person, provided due notice has been given to him and his consent obtained
6) Any other matter for which, in the opinion of the CLB/ NCLT, it is just and equitable that provision should be made.
7) Not to change in the Board of Directors. If a change in the Board of directors is likely to take place which (if allowed) would affect prejudicially the affairs of the company, the CLB/Tribunal may, if satisfied, after such inquiry as it thinks fit to make that it is just and proper so to do by order, direct that no resolution passed or that may be passed or no action taken or that may be taken to effect a change in the Board of directors after the date of the complaint shall have effect unless confirmed by the CLB/Tribunal. [Section 409]
8) If CLB/NCLT orders any alteration in memorandum or articles, company can not introduce any provision inconsistent to the order. [Section 404(i)]
9) If order set asides or modifies any agreement causing any loss then any claim for the loss can not be made. [Section 407(i)(a)]
10) The managerial personnel set aside shall not be eligible to serve company for 5 years. [Section 407(i)(b)]
Powers of Central Government [Section 408]
The requisite minimum number of members can apply to the central government for relief from oppression and mismanagement under Sec. 397 and 398. The minimum number shall be 100 or members not holding less than 1/10th of the total voting power. The following are the reliefs can be provided:
1) The central government may appoint such number of persons as the CLB/NCLT specifies as being necessary to safeguard the interest of the company, or its shareholders or the public interest to hold the office as directors of the company to prevent oppression and mismanagement. The directors so appointed shall not hold office more than three years from the date of appointment. Government may appoint additional directors also.
2) Any person can appointed by the central government to hold office as director or additional director and the government may issue such directions to the company as it may consider necessary to be appropriate in regard to its affairs.
3) The central government may require the persons appointed as directors to report to the government from time to time with regards to affairs of the company.
4) The government may issue directions that may include:
a) To remove an auditor already appointed and appoint another auditor in his place.
b) To alter the articles of the company.
5) Section 388-B and 388-E empowers the central government to remove managerial personnel from office on recommendation of CLB/NCLT
Even though the company is operated by the majority through directors, they are not free to do such an act which is only in their personal interest and not in the interest of the company. The companies act has substantially protected the rights of minority shareholders. Minority shareholders can take recourse to the provisions of section 397 and 398 in cases where companies indulge in oppression or mismanagement, prejudicial to the affairs of the company and public interest. The Company Law Board/ Tribunal have been assigned with substantial powers to protect the interests of the minority shareholders.