Company Law - Securities.docx

INTRODUCTION

Section 2(81) of the Companies Act, 2013 provides that “securities” means the securities as defined in clause (h) of section 2 of the Securities Contracts (Regulation) Act, 1956. According to section 2 (h) of the Securities Contracts (Regulation) Act, 1956 “securities” includei.

shares, scripts, stocks, bonds, debentures, debenture stock or other marketable securities of a like nature in or of any incorporated company or other body corporate;

ii.

Government securities;  such other instruments as may be declared by the central Government to be securities; and"]

iii.

rights or interests in securities;

The New Company Law has a provision1 similar to Section 111A of the Old Company Law. As per the said provision, the shares of a public company shall be freely transferable. The New Company Law explicitly provides that any contract or arrangement between two or more persons in respect of transfer of securities of a public company shall be enforceable as a contract.

1. Section 58.

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The said provision, to a certain extent puts to rest the ambiguity with respect to enforceability of contractual arrangement viz. a right to first offer, a right of first refusal, tag along right, etc. (“Contractual Arrangement”). The enforceability of such Contractual Arrangement has been subject matter of much litigation and the courts have taken divergent views from time to time. The said provision only validates the enforceability of the aforesaid Contractual Arrangement as a contract. It must be noted that the provision is in line with the judgment of the Bombay High Court in the matter of Messer Holdings Limited2. As per the Bombay High Court judgment, such Contractual Arrangement can be enforced like any other contract, but does not impede the free transferability of shares at all. However, the ambiguity regarding the power of the company to refuse the transfer which is in violation of such Contractual Arrangement to which the public company is a party still exists. The Act provides that shares of a company incorporated under the Act shall be movable property, transferable in the manner set out in the articles of association of such a company. It follows, therefore, that a restriction on transferability not contained in the articles of a company would not be enforceable in law. In this regard, the Supreme Court of India in the case of VB Rangaraj v. VB Gopalakrishnan3, held: “The only restriction on the transfer of the shares of a company is as laid down in its Articles, if any. A restriction which is not specified in the Articles is, therefore, 2. Messer Holdings Limited v. Shyam Madanmohan Ruia & Ors. [2010] 159 Comp.Cas. 29 (Bom) 3. [1992] 73 Comp Cas 201, 208 (SC).

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not binding either on the company or on the shareholders. The vendee of the shares cannot be denied the registration of the shares purchased by him on a ground other than that stated in the Articles.” In the matter of Gujarat Bottling Co. Ltd. v. Coca Cola Company4, the Supreme Court of India held that an agreement executed between certain parties governs the relationship between such parties and cannot be construed as placing any restraint on the right of the shareholders of the company who were not parties to the said agreement. The principle of law enunciated in Rangaraj’s case5 was followed by the Gujarat High Court in Mafatlal Industries Limited v. Gujarat Gas Company Limited6, the Madras High Court in the case of Crompton Greaves v. Sky Cell Communication Limited7 and the Bombay High Court in the case of IL & FS Trust Co Ltd v. Birla Perucchini Ltd8. In the last case, the Bombay High Court went so far as to say that since Rangaraj’s case9 placed reliance on Kalinga Tubes, the principle laid down by the Supreme Court in Rangaraj’s case10 is not confined to a situation involving only a transfer of shares. It states: ‘The Supreme Court has held that a restriction which is not specified in the articles of association is not binding either on the company or on the shareholders… The principle laid down by the Supreme Court in VB Rangaraj’s case11 is, therefore, not confined to a situation involving only a transfer of shares.’

4. (1995) 5 SCC 545. 5. Supra. 6. (1998) 2 GLR 1436. 7. (2003) 115 CompCas 832 Mad. 8. (2004) 121 CompCas 335 Bom. 9. Supra. 10. Supra. 11. Supra.

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The issue of transferability of shares came up, once again, for consideration before the Supreme Court in MS Madhusoodhanan v. Kerala Kaumudi Pvt Ltd12. When the case came up in appeal to the Supreme Court, the respondent sought to argue, on the basis of Rangaraj13 that since the terms of the Karar were not included in the articles of association of the company, the same would be unenforceable. Rejecting the argument, the Supreme Court, after discussing the principle laid down in Rangaraj14, and held that the said decision does not in any way hold that the transfer of shares agreed to between shareholders inter se does not bind them or cannot be enforced like any other agreement. The Supreme Court reinforced the law laid down in Rangaraj15, and in doing so has only made a distinction between an agreement to transfer shares between particular shareholders (as in Kerala Kaumudi) on the one hand and an agreement imposing blanket restrictions, for all times to come, on the ability to transfer shares on all the shareholders, present and future, contrary to the articles of association of the company, on the other, which was the case in Rangaraj. Consequently, the applicability of the decision in Kerala Kaumudi16 is to be restricted to agreements for transfer of shares inter se parties thereto, and does not extend to agreements imposing restrictions on transferability of shares, which continue to be subject to the law laid down in the Rangaraj17 and the applicable provisions of the Companies Act 1956.

12. (2004) 117 CompCas 19 SC. 13. Supra. 14. Supra. 15. Supra. 16. (2004) 117 CompCas 19 SC. 17. Supra.

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The Delhi High Court, in Pushpa Katoch v. Manu Maharani Hotels Limited18 has gone a step further and said that in the case of a public company, a restriction on transfer of shares irrespective of the fact that it is incorporated in the articles of association would be void and unenforceable.

18. (2006) 131 CompCas 42 Delhi.

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TRANSFER AND TRANSMISSION OF SECURITIES (S 56)

A company shall register a transfer of securities or interest of members only when such a proper instrument of transfer; duly stamped, dated and executed by or on behalf of the transferor and transferee and specifying the name, address and occupation has been delivered to the company by either party within a period of sixty days from date of execution, along with the certificate of security or the letter of allotment of securities. Where, instrument of transfer has been lost or has not been delivered, the company may register the transfer on an indemnity bond. On receipt of intimation, a company has power to register transmission of any right to securities by operation of law from any person to whom such right has been transmitted. Where an application is made by transferor alone and relates to partly paid shares, the transfer shall be registered by the company only after giving notice of the application to the transferee, and transferee gives no objection to the transfer within two weeks from the receipt of notice. The transfer of any security or other interest of a deceased person in a company made by his legal representative shall be valid as if he had been the holder at the time of the execution of the instrument of transfer.

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Delivery of certificate of securities: Every company shall, unless prohibited by any provision of law or any order of court, Tribunal or other authority, deliver the certificate of all securities allotted, transferred or transmitted – a) Within a period of two months from the date of incorporation, in case of subscribers to the memorandum; b) Within a period of two months from the date of allotment, in case of any allotment of any of its shares; c) Within a period of one month from the date of receipt by the company of the instrument of transfer or intimation of transmission; and d) Within a period of six month from the date of allotment in case of any allotment of debentures. However, where the securities are dealt with in a depository; the company shall intimate the details of allotment of securities to depository immediately on allotment of such securities.

Penal provision: Where any default is made under this section, the company shall be punishable with fine which shall not be less than twenty-five thousand rupees but which may extend to five lakh rupees and every officer of the company who is in default shall be punishable with fine which shall not be less than ten thousand rupees but which may extend to one lakh rupees.

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Without prejudice to any liability under the Depositories Act, 1996, where any depository or depository participant, with an intention to defraud a person, has transferred shares, it shall be liable under section 447.

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REFUSAL OF REGISTRATION AND APPEAL (S 58)

The securities and other interest of any member in a public company shall be freely transferable. Any contract or arrangement between two or more persons in respect of transfer of securities shall be enforceable as a contract. This means any shareholders’ agreement restricting transferability of shares in a public company shall be a private contract among contracting members. If a private company limited by shares refuses to register the transfer or transmission of any securities or interest of a member in the company, it shall, send a notice of the refusal to transferor, transferee or person sending intimation giving reason for such refusal. This intimation shall be send within a period of thirty days from the date of receipt of instrument of transfer or intimidation for transmission. The transferee may appeal to the tribunal against the refusal within a period of thirty days from the date of receipt of the notice. Where no notice has been send by the company, transferee may appeal to the tribunal within a period of sixty days from the date on which the instrument of transfer or intimation of transmission was delivered to the company. If a public company without sufficient cause refuses to register the transfer of securities within a period of thirty days from the date on which the instrument of transfer or the intimation of transmission, as the case may be, is delivered to the company, the transferee may, within a period of sixty days of such refusal or where no intimation has been received from the company, within ninety days of the 9|Page

delivery of the instrument of transfer or intimation of transmission, appeal to the Tribunal. The tribunal after hearing the parties, may either dismiss the appeal or by order – a) Direct that the transfer or transmission shall be registered by the company and company shall comply with such order within a period of ten days of receipt of the order; or b) Direct rectification of the register and also direct the company to pay damages sustained by any party. If a person contravenes the order of the Tribunal under this section, he shall be punishable with imprisonment for a term which shall not be less than one year but which may extend to three years and with fine which shall not be less than one lakh rupees but which may extend to five lakh rupees.

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RESTRICTIONS ON TRANSFERABILITY OF SECURITIES IN A PRIVATE COMPANY

Reasonable restrictions can be imposed by a Private Company only under the provisions found in the Articles of Association. There are 2 kinds of provisions which can be incorporated in the Articles of the Company for this purpose. They are: 1) Power of Directors to refuse transfer of shares. In Bajaj Auto Limited v. Company Law Board19, it was held by the Supreme Court that the power of the Board of Directors to refuse registration of transfer of shares must be in the interest of the company and the general body of share-holders. 2) Pre-emptive rights. A right of pre-emption is incorporated in the articles of a Private Company to restrict the members’ right to transfer shares to non-members. Under Sec 58, Refusal to register the transfer of shares can be done only on the ground of restrictions contained in the Articles of Association. This was also upheld by the Supreme Court in the case of V.B Rangaraj v. V.B. Gopalakrishnan20. A recent judgment rendered by the High Court of Bombay in the case of Western Maharashtra Development Corporation. Ltd. v. Bajaj Auto Limited21, also firmly

19. [1998] INSC 348. 20. Supra. 21. (2010) 154 Comp Cas 593 (Bom).

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establishes the fact that a public company in India cannot provide for restrictions on the transferability of its shares. The articles of association of a private limited company must state expressly that the right to transfer its shares is as restricted therein. It may thus provide for such grounds upon which the board of directors of the company may refuse the registration of its shares. The pivotal position of law in this regard is in the oft-quoted case of V B Rangaraj v. V B Gopalakrishnan22. On the question of whether shareholders can, amongst themselves, enter into an agreement which is contrary to or inconsistent with the articles of association of the company, the Supreme Court of India held, that the only restriction on the transfer of shares of a private company is as laid down in its articles of association, if any. A restriction which is not specified in the articles of association is therefore not binding either on the company or on the shareholders. Reiterating the above principle and elaborating on the enforceability of the same among shareholders, the Supreme Court observed that: "As far as private companies are concerned, the articles of association restrict the shareholder's right to transfer shares and prohibit any invitations to the public to subscribe for any shares in, or debentures of, the company." This is how a "private company" is now defined in section 3(1) (iii) of the Companies Act, 1956 and how it was defined in section 2(13) of the 1913 Act and how it is defined now in section 2(68) of the 2013 Act. Subject to this restriction, a holder of shares in a private company may agree to sell his shares to a person of his choice. Such agreements are specifically enforceable under section 10 of the Specific Relief Act, 1963, which corresponds to section 12 of the Specific Relief Act, 1977. The section 22. Supra.

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provides that specific performance of such contracts may be enforced when no standard exists for ascertaining the actual damage caused by the non-performance of the act agreed to be done, or when the act agreed to be done is such that, compensation in money for its non-performance would not afford adequate relief. In the case of a contract to transfer movable property, normally specific performance is not granted except in circumstances specified in the explanation to section 10. One of the exceptions is where the property is "of special value or interest to the plaintiff, or consists of goods which are not easily obtainable in the market". It has been held by a long line of authority that shares in a private limited company would come within the phrase "not easily obtainable in the market"23. It is interesting to note that the Principal Bench of the Company Law Board has pronounced that even though a private company, being a subsidiary of a public company is defined as a public company in the Act, all the provisions in the articles of association to maintain the basic characteristics of a private company in terms of section 3(1) (iii)24 will continue to govern the affairs of such a company. One of the basic characteristics of a private company in terms of that section is the restriction on the right to transfer the shares and the same will apply even if a private company is a subsidiary of a public company25. Based on the above, it can be summed up that the powers for restricting the transfer of shares of a private company are binding only to the extent they are recorded within the articles of association. The following must also be noted:

23. M S Madhusoodhanan and Anr. Vs. Kerala Kaumudi Pvt. Ltd. and Ors, (2004) 9 SCC 204. 24. Now section 2(68) of the new Companies Act of 2013. 25. Hillcrest Realty Sdn. Bhd Vs. Hotel Queen Road Pvt. Ltd. and Ors., [2006] 71 SCL 41 (CLB).

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a) The right to transfer may be subjected to restrictions contained in the articles of association. Where a restriction is capable of two meanings, the less restrictive meaning will be adopted by the courts. b) The power to refuse the transfer of shares cannot be exercised arbitrarily or for any other collateral purpose and can only be exercised for a bona fide reason in the interest of the company and the general interest of the shareholders. Where by its articles of association a company reserves the right to refuse the transfer of shares, the burden of proving that such refusal was not bona fide is on the person who so alleges. c) While there may be restrictions on the transferability of the shares, there cannot be an absolute prohibition on the right to transfer of shares. In this regard, it is helpful to note that a right of pre-emption has been held to not amount to a prohibition upon transfer.

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RESTRICTIONS ON TRANSFERABILITY OF SECURITIES IN A PUBLIC COMPANY

The validity of restrictions in private agreements on the transferability of public companies has been the subject matter of several judgments. The Principal Bench of the Company Law Board examined a provision in the articles of a public limited company requiring a selling member to give notice to the board, who would then act as an agent to sell the shares to other members at an agreed price or at a price to be determined through arbitration and held that the articles of a public company cannot contain provisions destructive of free transferability and therefore, such a provision was held to be misfit with the concept of a public company26. The High Court of Delhi upheld an order of the Company Law Board on the ground that the articles of association of the company, which was a public limited company, shall prevail over any family settlement. The Court noted that even if there was a provision for pre-emptive rights in the articles of association, it would have been ultra vires the provisions of the Act, as no company can provide in the articles of association any matter which offends the specific provision of an Act, namely, sub-section (2) of section 111A27 of the Company Act, 1956 which specifically provides that the shares or debentures and any interest therein of a public company shall be freely transferable28. The recent Bombay High Court judgment clearly lays to rest any open questions on the issue of restricting the free transferability of shares of a public limited

26. Infra. 27. Now section 56 of the Companies Act, 2013. 28. Smt. Pushpa Katoch Vs. Manu Maharani Hotels Ltd. and Ors., [2006] 131 Comp Cas 42 (Delhi).

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company. The Court observed that, "The effect of a clause of pre-emption is to impose a restriction on the free transferability of the shares...This is impermissible."

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FREE TRANSFERABILITY IN THE CASE OF PUBLIC COMPANY

Grounds on which Public listed Companies could refuse to register transfer were to be found in S. 22 A of the Securities Contracts (Regulation) Act, 1956. Under the Section, the Board of Directors could refuse to register a transfer on only one or more of the following four grounds: 1. The instrument of transfer is not proper or has not been duly stamped and executed or the certificate relating to the security has not been delivered to the company or that any other requirement of law relating to such transfer has not been complied with; or 2. The transfer is in contravention of any law or rules made thereunder or any administrative

instructions

or

conditions

of

listing

agreement;

3. The transfer is likely to result in such change in the composition of the Board of directors as would be prejudicial to the interest of the company or to the public interest; 3. The transfer is prohibited by any order of any court or tribunal or other authority under any law for the time being in force. This section has been omitted from the SCR Act, by the Depositories Act, 1996. As a result of this omission, no ground is available to a Public Company, listed or unlisted, for refusing a transfer.

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The Depositories Act, 1996 has inserted a new provision in the form of section 111A29 into the Companies Act, 1956 in the matter of transfer of shares of Indian Public Company whether listed or unlisted. Thus the Articles of a Public Company cannot contain provisions destructive of free transferability. A provision in the articles of such a Company was that a selling member would have to give notice to the Board and the latter would act as an agent to sell the shares to other members either at an agreed price or, in the absence of an agreement, at a price to be determined through arbitration. This provision was held to be a misfit with the concept of a public Company. The Company was directed to drop it30.

29. Now section 56 of the Companies Act,2013. 30. Arjun S Kalro Vs. Shree Madhu Industrial Estates Ltd (1997) 1 Comp LJ 318 (CLB – PB).

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GROUNDS ON WHICH A PUBLIC COMPANY CAN REFUSE TO REGISTER TRANSFER

The only ground on which a Public Company may refuse a transfer is on some “sufficient cause”. The Proviso to sub-section (2) of Sec. 111A31 provides that, If a company without sufficient cause refuses to register transfer of shares within two months from the date on which the instrument of transfer or the intimation of transfer, as the case may be is delivered to the Company, the transferee may appeal to the Tribunal and it shall direct such company to register the transfer of shares. In Estate Investments Company P. Ltd. v. Siltap Chemicals Ltd.32 the Company Law Board laid down the scope of the words “sufficient cause”. The opinion of the CLB was that only those grounds would constitute a sufficient cause on which the CLB can order rectification of the Register of Member of Company under S. 111A (3)33. The grounds of refusal as laid down under S. 111A (3)34 are: a) Contravention of the provisions of the SEBI Act, 1992 or Regulations made under that Act. Where the acquisition of shares exceeded 10% and the procedure as to public announcement of such acquisition as prescribed by the Takeover Regulations was not followed, that was held to be a “sufficient cause” within the meaning of section 111A35 for the Company not to register the transfer36. 31. Now Section 58 of the Companies Act, 2013. 32. (1999) 96 Comp Cas 217 CLB. 33. Now section 58 of the Companies Act, 2013. 34. Now section 58 of the Companies Act, 2013. 35. Now section 58 of the Companies Act, 2013.

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b) Violation of Sick Industrial Companies (Special Provisions) Act, 1985. c) Contravention of any other law for the time being in force. The expression “or any other law for the time being in force” in Section 111A (3)37 has to be read in the context of the other words used in sub-section and would be confined to statute law. A refusal to accept a transmission by a small Company was held to be justified in Xavier Joseph Vs. Indo Scottish Brand Private Limited.

36. Bakhtawar Construction Co. O. Ltd. v Blossom Industries Ltd., (2000) 99 CompCas 44 CLB. 37. Now section 58 of the Companies Act, 2013.

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CONCLUSION

The judgment of the Bombay High Court addresses, directly and forcefully, the question of whether adopting of restrictions on the transfer of its shares within the articles of association of a public company would provide any legitimacy to such restrictions and answers the same in the negative. The Court declined to accept the submission that an agreement restricting transferability of only specified shares between particular shareholders would not be offensive of the doctrine of free transferability of shares in a public company. Thus, the views expressed by the Bombay High Court in the aforesaid judgment provide valuable guidance to all parties to joint venture/business collaboration, on the implications and consequences of incorporating a public limited company in India to act as the joint venture company. Thus, the aforesaid provisions indicate that the shares of a public limited company are movable property, freely transferable and this transferability cannot be restrained even by the Articles of Association of the Company and is only subject to the statutory checks as laid down under sub-section 3 of Sec. 111A38. Thence, free transferability of shares of public limited companies is assured with permission to place reasonable restrictions on transferability.

38. Now section 58 of the Companies Act, 2013.

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BIBLIOGRAPHY

http://indiankanoon.org/doc/947636/ http://indiacode.nic.in/acts-in-pdf/182013.pdf http://www.mondaq.com/india/x/102852/Directors+Officers/Restrictions+on+Tran sferability+of+Shares http://www.sec.gov/answers/restric.htm http://law.onecle.com/pennsylvania/corporations-and-unincorporatedassociations/00.015.029.000.html http://www.lrc.ky.gov/Statutes/statute.aspx?id=13347 Bare Act of Companies Act, 2013 by Universal Publication A Ramaiya, Guide to the Companies Act, 16th Edition Reprint 2006 K.M. Ghosh & Dr. K.R. Chandratre’s Company Law, 13th edition Article by Ashok Dhamija published in the Financial Express of August 02, 1999, under the title of "Power to refuse free transfer of shares".

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