Tata-Mistry Case: A Tribunal’s Deference To ‘Corporate Democracy’BloombergQuintOpinion
Much like sovereign democracy, corporate democracy plays to the will of the majority. The majority rule enforces a contractual bargain among shareholders that puts collective decision-making ahead of individual interests. By placing business decisions in the hands of the board of directors, it introduces an element of efficiency. However, what is to prevent a tyranny of the majority that steamrolls minority shareholders? Here, corporate law intervenes to moderate the behaviour of dominant shareholders to ensure they do not cause unfair prejudice to the interests of the minority. Minority shareholders can resort to the remedy of ‘oppression and mismanagement’ to restore the balance of power.
The scope and utility of the oppression and mismanagement remedy came to the forefront in the high profile Tata-Mistry corporate battle. As is well known, the minority shareholders belonging to the Mistry camp challenged various decisions taken by the dominant shareholders belonging to the Tata group. These included several business decisions taken in various Tata group companies, the amendments of the articles of association of the holding company Tata Sons Ltd. to enhance the powers of the Tata shareholders and ultimately the removal of Cyrus Mistry as the executive chairperson and thereafter as a director of Tata Sons. After marathon hearings, the Mumbai Bench of the National Company Law Tribunal issued a 368-page ruling declining to grant any relief to the minority shareholders.
Given the stakes involved, the saga is only set to continue before the appellate authorities. This is, therefore, an opportune moment to dissect the oppression and mismanagement remedy in the light of the Tribunal’s ruling. Much as one may be sympathetic to the minority’s cause in the Tata Sons case, the present predicament arises because the Companies Act, 2013 substantially narrows the scope of the oppression and mismanagement remedy.
Proponents of corporate democracy may see this as a vindication of the majority rule, as minority shareholders are likely to sight victory only in the rarest of rare circumstances. Is this a desirable situation? Alternatively, is there a dire need to rebalance the interests of shareholders by redesigning the oppression and mismanagement remedy? The answers to these questions lie in a critical analysis of the statutory provisions as the Tribunal has interpreted.
The erstwhile Companies Act, 1956 conferred two distinctive remedies upon shareholders. The first is an oppression remedy where the company’s affairs are carried out in a manner that is prejudicial to public interest or oppressive to any shareholders. However, this was to be accompanied by the fact that the circumstances were so dire as to justify the winding up of the company on “just and equitable” grounds, even though to actually wind up the company would be the nuclear option that is detrimental to the various stakeholders. The second—and rather over-broad—remedy was mismanagement whereby actions taken by the management are likely to be prejudicial to the interests of the company or the public. However, the mismanagement remedy did not require that the situation warrant the winding up of the company on just and equitable grounds.
In the presently applicable Companies Act, 2013, however, the two remedies have been consolidated.
More importantly, the now-single remedy needs proof of a situation demanding just and equitable winding up, thereby making it unduly onerous on minority shareholders seeking to exercise the remedy.
Other factors compound the situation. Courts have historically interpreted the oppression and mismanagement remedy in less than objective terms, using vague terminology and characteristics that cause uncertainty. A heavily fact-based analysis means that minute differences in circumstances could result in diametrically opposing conclusions. At the same time, adjudicatory bodies have sought to induce elements of objectivity, as the Tribunal has sought to do in the Tata Sons case.
First, it is necessary to test the acts of the dominant shareholders against the touchstone of ‘unfairness’. In other words, their conduct must be so reprehensible that it deserves the intervention of the adjudicatory bodies.
Second, unfairness on its own is insufficient. It should also have caused ‘prejudice’ or, in other words, harm to the victim shareholders.
It does not matter whether the dominant shareholders in fact intended to cause the harm; all that counts are the consequences.
Here, the Tribunal offers some guidance on what situations could cause ‘unfair prejudice’. It cites “allotment of shares, siphoning of funds, dilution of shareholding, insertion of new articles, depriving the rights already in existence, selling of assets, passing resolutions without putting it to the notice of the minority shareholders and etc.” These are indeed extreme situations where the dominant shareholders’ and management’s actions will benefit themselves to the detriment of the minority shareholders.
At the same time, the Tribunal’s deployment of deductive reasoning to the effect that other types of conduct will fall outside the purview of the oppression and mismanagement remedy is an overkill. It is not all black and white.
Third, and most problematic, is the requirement that the conduct of the dominant shareholders should warrant a “just and equitable” winding up of the company. The Tribunal invokes principles set out in English cases wherein these exceptional remedies are available only in cases involving “quasi-partnerships”. Although incorporated as companies, these entities effectively operate as partnerships. The requirements are that shareholders enjoy a personal relationship instilled with mutual trust and confidence, that shareholders have arrived at an understanding that all of them will participate in the business of the company, and that there are restrictions on the transfer of shares of such a company.
The logic for such an approach is that when companies effectively run as partnerships, absolute principles of corporate democracy no longer apply and there is a need for judicial intervention to protect minority shareholders trapped in an oppressive relationship.
Here again, the Tribunal pronounces some stark distinctions in that the quasi-partnership concept applies only to small companies and family companies, but it does not apply to professionally managed companies such as Tata Sons.
Moreover, it relies heavily on the fact that Tata Sons was incorporated at the outset as a company and was not converted from a partnership.
The applicability of such artificial distinctions pays undue attention to the form and less to the substance. It merits a more comprehensive examination of the relationship between the shareholders and the management.
Another instance demonstrates an approach of the Tribunal that is replete with generalisations. One of the reasons why it refused to entertain the ‘legacy’ issues in various Tata group companies, including those listed on the stock exchange, is that the legal action did not implead those companies as parties. This implies that in an oppression and mismanagement action involving a holding company such as Tata Sons, it is simply not sufficient to use conduct of the dominant shareholders in managing group companies as evidence of oppression and mismanagement, but those companies must also be brought into the main action. This is bound to obfuscate an already complex legal proceeding. A more pragmatic approach must be formulated.
In all, the Tribunal performs a commendable job laying out the nuances of the Tata Sons case on both facts and the law. However, as demonstrated, through its narrow and technical interpretation of the remedy together with the generalised nature of its application, it has signalled an overwhelming preference for corporate democracy. Reading between the lines, the Tribunal’s fears of opening up the floodgates to minority shareholders aiming at subverting democracy is writ large. As a result, minority remedies appear extremely slender.
Umakanth Varottil is an Associate Professor of Law at the National University of Singapore. He specialises in company law, corporate governance and mergers and acquisitions.
The views expressed here are those of the author’s and do not necessarily represent the views of BloombergQuint or its editorial team.