ENFORCEABILITY OF SHAREHOLDER’S AGREEMENT IN INDIA

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ENFORCEABILITY OF SHAREHOLDER’S AGREEMENT IN INDIA

INTRODUCTION

An agreement is formed when two or more persons agreed to do the same thing in the same sense. An agreement can be created with or without legal obligations. An agreement must have reciprocal promises between the parties and each party who is bound by the agreement has a legal duty to fulfill the promise. A share represents the share capital of the company that includes stock, if a person holds a share in a company he is known as the shareholder of the company. A shareholder is also known as the stockholder. Shareholders are considered as the owners of the company, a shareholder can be a person, company, or institution but they should hold at least one share of the company’s stock. A shareholder agreement (SHA) is an agreement between the company’s shareholders. Generally, when a group of people plans to start a company, they decide their terms and condition, duties, and their respective contribution to the share capital of the company orally. Based on their oral discussion, the shareholders of the company will enter into an Article of Association (AoA) that includes high-level terms about the mode of share, capital and share transfer, company’s meetings and proceedings, and prescribes the rules and regulation of internal management of a company. In addition to AoA, the shareholders enter into a written agreement that is known as the Shareholders Agreement that includes certain terms such as how the company should be operated and what are the specific rights and obligations of the shareholders [1].

SHAREHOLDER AGREEMENT & ARTICLE OF ASSOCIATION

SHA and AoA are complementary in nature the main motive behind SHA are to bind the Shareholders in an agreement with specified rules to prevent future disagreements. While AoA is the basic documents necessary for all companies. AoA is a standardized one that binds its company and shareholder and helps to articulate the responsibilities of the directors. The SHA may have the same contents of AoA but the contents are more extensive and provide protection to the shareholders. SHA has no standard form it is a private agreement between parties whereas AoA is public which makes it inappropriate in addressing sensitive and confidential information. With the help of SHA, we can solve the potential disputes in an inexpensive way as it guides how to make decisions in a crucial time and helps in dispute resolution with its framework and procedures. SHA contains clauses that are supreme when compared to AoA and AoA contains statutory clauses. AoA can’t deal with personal matters of shareholders as it will restrict its statutory powers but SHA can deal with personal matters of shareholders and even form future agreements when it is needed in the future [2]. In India, there is no specific law to govern SHA and it is not mandatory for companies to enter into the SHA as there is no rules and regulation any number of shareholders can enter into an agreement.

ENFORCEABILITY OF SHAREHOLDERS AGREEMENT

  • There is no particular act, case law to govern SHA and it also does not have legal formality prescribed by law. But the remedy can be claimed under the company Act, 2013 this Act was recently amended and known as The Company (Amendment) Act, 2020. To claim compensation under the Company Act the SHA is made in compliance with the AoA. The Articles can also be altered even after the shareholders enter into the SHA this is a common practice.  An Agreement cannot be imposed against a third party of SHA. However, to impose an agreement on a third party concerning non-company related issues the terms at first must be incorporated on the AoA. Since the AoA of the company is public any third party can read AoA before entering into an agreement [3]. In many cases in India judges held the SHA as void as the terms in SHA were not incorporated on the AoA of the company. Therefore, we cannot execute SHA without incorporating the same terms in the AoA. If any provisions of SHA are not embedded into the AoA then the SHA will be considered as inconsistence and void [4].
  • In V.B.Rangaraj v. V.B Gopalakrishnan, the Supreme Court accepted the proposition of the parties who belong to a private company for which the restrictions enforced on the ability to transfer shares is ineffective as it is not incorporated in the AoA. The court held that the restrictions that are not specified in the AoA will not bind both the company and shareholder.

MAJORITY AND MINORITY SHAREHOLDERS

A majority shareholder has a significant amount of influence over the company as they own and control 50 % of the company share or more. This makes the majority shareholder a partial owner of the whole company and they have more power than the power of other combined shareholders. They have the authority to do other things which the other shareholders do not have the authority to do so these type of situation mostly occur in private companies rather than public companies [6]. Minority shareholders are those who own less than 50% of the share in the company. The rights of a minority shareholder in private companies are oppressed than the public companies because, in a private company, shares cannot be sold in the open market in the same way as the public company. Minority shareholders should act with the interest of the company and they should avoid self-dealing and act in accordance with the basic rule of the company [7]. The fundamental principle in terms of shareholders is that majority shall prevail but it also necessary to ensure that the power of the majority must be within the reasonable limit which does not cause oppression. The minority shareholders also should be given equal opportunity as the majority shareholders to voice out their opinions. If minority shareholders are unfairly treated it is the duty of the company to set up an appropriate body to deal with it. For effective decision making the company should hear the opinions of both sides without favouring the majority [8].

COMMON RIGHTS OF STopHAREHOLDERS [9]

  • Voting rights
  • Voting rights gives the authority to vote on major issues that include electing directors, making fundamental changes in proposals that will create an impact on the company such as mergers and liquidation.
  • Ownership rights
  • Shareholders gain ownership rights. When the business is successful the shareholders can own a piece that has value. Every shareholder has a right to the assets owned by the company. When these assets are generated profits they are reinvested as additional assets. Shareholder’s shares increase simultaneously as the stock price rises.
  • Transfer of ownership rights
  • The right to transfer allows the shareholders to trade their stock for exchange. Though this right to transfer ownership is mundane the liquidity acquired by the stock exchange is important. Liquidity is defined as a certain degree to which the security or an asset can be bought and sold without a decline in the market price. It is also an important factor to distinguish between stocks from investment for example real estate.
  • Claim to dividends
  • In addition to the assets, the shareholders can also claim the profit from the company in the form of a dividend. The company management has two options with profits that is they can reinvest the profit back into the company which will increase the company’s overall value or they can pay it out in the form of dividends. In this, the shareholders cannot decide the percentage of profits should be paid out only the board of directors has the authority to do so. However, the shareholders will receive their share whenever the dividends are declared.
  • Right to inspect records
  • Shareholders have the right to access company records such as minutes of meetings and bylaws of the company. They have the right to participate in the annual meetings and the right to get copies of the company’s financial statements. They can also call for general meetings.
  • Right to sue
  • The shareholders have the right to appoint the directors and the right to appoint company auditors. If there is any mistake or fraud in the directors or other parties who belong to the company the shareholders can take legal action against them.

CONCLUSION

We all know, maintaining the company is a tough job. A question arises whether SHA is necessary or not. Trust plays a key role in maintaining the company, if a company is maintained by the same family members it is not necessary to enter into an SHA because they are bound by mutual trust. However, when the shareholders are not familiar with each other it is important to have an SHA to prevent foreseeable disputes [10]. Nowadays, even between family members, SHA is important as it acts as a precautionary measure because mutual trust alone will not help in case of disputes between them. Another question is that if there is a conflict between AoA and SHA which will prevail over the other. For this there is no clear answer it can be decided only by due examination and the final decision will be taken by the court.

REFERENCES

[1] Taarakesh, Shareholders Agreement and its importance, https://taxguru.in/compay-law/shareholders-agreement-and-its-importance.html?amp

[2] Anatomy of a shareholders’ agreement, lexology, (Oct. 8, 2019) https://www.lexology.com/library/detail.aspx?g=ec53b73d-92cb-4f53-b959-d3ed9436591d

[3] Anupam, Enforceability of Shareholders Agrements, https://blog.ipleaders.in/enforceability-of-shareholders-agreements/amp/

[4] Enforceability of Shareholder’s Agreement – A hard nut to crack, https://taxguru.in/company-law/enforceability-shareholders-agreementa-hard-ut-crack.htm?amp

[5] AIR 1992 SC 453

[6] Balancing Rights of Majority and Minority Shareholders, (Aug. 2, 2019), https://www.lawteacher.net/free-law-essays/business-law/balancing-rights-of-majority-and-minority-shareholders-business-law-essay.php

[7] Marc Newman, minority owner of a privately held company, (Apr. 5, 2020), https://millerlawpc.com/rights-minority-shareholders-private-companies/

[8] Minority Interests, https://www.mca.gov.in/MinistryV2/minority+interests.html

[9] Basia Hellwig, Know Your Shareholder Rights, (May 30, 2019), https://www.investopedia.com/investing/know-your-shareholder-rights/

[10] Supra note at 1.

Author: JOTHI POORNA S,
BHARATH INSTITUTE OF LAW, CHENNAI./ 3rd year / STUDENT.

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