In a decision that could have major adverse consequences in the practice of corporate law the Bombay High Court on 15 February 2010 has effectively declared that transfer restriction clauses like rights of first refusal, tag along and drag along rights, or put and call options in joint venture agreements and shareholder agreements of public companies are void.
The order in the case of Western Maharashtra Development Corporation Limited vs Bajaj Auto Limited has ruled against rights of pre-emption in favour of shareholders of a listed company, as violating section 111A of the Companies Act.
Kolkata firm Argus Partners commented that this case could potentially affect a wide range of agreements, which often incorporate transfer restriction clauses.
Section 111A provides that subject to the provisions of the section, ‘the shares or debentures and any interest therein of a Company shall be freely transferable’ and the current decision pronounced by Justice D Y Chandrachud held restrictions transferability of shares impermissible and against public policy.
The agreement in contention was entered into between Western Maharashtra Development Corporation Limited and Bajaj Auto Limited, which together held 51 per cent equity in Maharashtra Scooters Limited (MSL).
It provided that if either party intended to part with or transfer its share holding in MSL, then such party should give the other party the first option to purchase such shares.
Relevant excerpts of the judgement read: “The provision contained in the law for the free transferability of shares in a public Company is founded on the principle that members of the public must have the freedom to purchase and, every shareholder, the freedom to transfer. The incorporation of a Company in the public, as distinguished from the private, realm leads to specific consequences and the imposition of obligations envisaged in law.
“The effect of a clause of pre-emption is to impose a restriction on the free transferability of the shares by subjecting the norms of transferability laid down in Section 111A to a pre-emptive right created by the agreement between the parties. This is impermissible.” Case: Western Maharashtra Development Corpn Ltd. Vs. Bajaj Auto Limited (MANU/MH/0109/2010)
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Comments
@ 1 - of course this is not path breaking but agreements did have such clauses which were widely debated and fought over. The way Legally India has covered it, including excerpts and citation, is worthy of praise. If we can give them some encouragement (which costs nothing), instead of criticism (and its easy to criticize anything good), it will probably make the Legally India team move enthusiastic.
Best,
Fan.
The dispute in question involves 'contract' between two parties (I dont see how it matters, whether they are companies or not) not to sell shares to third parties. This is certainly outside the purview of the Companies Act. The Companies Act prohibits a company from putting in transfer restriction on its 'own shares' not on shares of other companies it holds.
If the intention of the legislature is to prevent any such clauses, it would have been inserted in the Contract Act. For example, me and my friend could easily get into a contract to not sell shares I hold of any company.
The Protocol Agreement is illegal and any determination under the agreement is void..... The Protocol Agreement is incorporated in the Articles of Association of MSL. The shares of a Public Company are declared by Section 111A of the Companies' Act, 1956 to be freely transferable..........
Also see para 14: submission of respondent which clearly says it was in the articles of MSL-
...... The restriction is contained in the Articles of Association. Section 111A of the Companies' Act, 1956 does not prohibit agreements entered into between specific shareholders regarding specific shares, particularly when incorporated in the Articles of Association.
Bharat Sharma
Bharat Sharma
1 It is indeed a very important point which you have addressed and I note with interest the brilliant comments made by our learned colleagues.
2 It is highly complex to summarise the points raised by the Judgement, in my humble opinion however the following points shoud please be taken in to account when considering this matter.
3 A Right of pre-emption is never regarded is restriction in the Jurisprudence and accordingly it can never be interpreted as restrective.
4 Notwithstanding any contract to the contrary and unless the statute expressly prohibits, parties shall be deemed to at liberty to enter in to any contract which is not illegal immoral or against the public policy.
5 Whether a particular contract is against the public policy is to be decided by the judge( and not by the jury ) having regard to the merits of each case before the court . However in each such case it is up to the court to demonstrate as to why any such contract is against the public policy
6 As a general rule any restrictions which are reasonable and are fair and equitable to both parties to the contract it will regarded as a valid by the court . However the burden of showing that a particular clause is reasonable will be upon the party who wish to place reliance upon the reasonableness of such clause .
Kind Regards
Bhupendra K Vyas
Solicitor
Singhania and co
London
( views expressed herein are of the Auithor and not of any one else)
interested readers may also read Manu Maharani v. Pushpa Katoch (Del HC)
Nishkalp judgment (Bom HC on put/call options).
For a public company, this restriction is violative and ultra vires tthe Act and the company is not bound to take any cognizance thereof post this judgement.