2015 (2) TMI 644 - SC - Companies Law

Supreme Court upholds preemption clause in Articles of Association post Companies Act 2000

The Supreme Court allowed the appeal, confirming that the respondent company remained a hybrid company post the Companies (Amendment) Act, 2000. The ... Articles of Association- Restriction on the rights to transfer of shares- whether any preemption clause/article restraining transferability of shares in public company is valid. Whether on and after the bringing into force of the Companies (Amendment) Act, 2000, the status and character of Gharda Chemicals Ltd. (R-1) continued to be as that of a “hybrid company” (Section 43A company) and whether this company and its members are bound by the terms of a preemption clause contained in Article 57 of the Articles of Association? Held that- The case of the appellants all through has been that notwithstanding the amendment of the Act by the Amendment Act 53 of 2000, Article 57 of the Articles of Association still governs the rights of the members of the first respondent Company. On the other hand, the case of the respondents has always been and is that the first respondent company is a public company having had become so by the operation of law i.e., Section 43A(1) and it cannot now become a private company. There is nothing in the Amendment Act 53 of 2000 which automatically renders a public company created under Section 43A to become a private company. It is also the case of the respondents that the failure to amend the Articles of Association to give effect to Section 3(1)(iii)(d) ipso facto make the first respondent a public company thereby rendering Article 57 inoperable. it can be seen that by the date of amendment of Section 43A by the Act 53 of 2000, there are four classes of private companies which are declared by the said section to become public companies on the happening of an event mentioned in each of the sub-sections.It is also necessary to note that each of the abovementioned four sub-sections contained a proviso. The tenor of all the four provisos is identical. Proviso- “Provided that even after the private company has so become a public company, its articles of association may include provisions relating to the matters specified in clause (iii) of sub-section (1) of section 3 and the number of its members may be, or may at any time be reduced, below seven.” The High Court held that It is clear from the factual position that the attempt to amend the Memorandum and Articles of Association of the first respondent was unsuccessful. The said resolution proposed in the meeting held on 5th May 2001 was not carried but in fact defeated. Once it was defeated, then, the first respondent which had become a public company on 17th August 1988 continued with that status. It would be of relevance to note that the resolution was moved in the meeting held on 5th May 2001. That resolution was defeated on that day. However, the Companies Amendment Act 2000 had come into effect already and to be precise from 13th December 2000. On 13th December 2000, GCL was not a deemed public company but a public company. Once it was a public company, then, the argument of the appellants that it continued to retain its fundamental and basic character as a private company cannot be accepted. The status is conferred by law. The status was sought to be changed or amended by moving an amendment to insert an additional clause (d) was defeated, then, there is no scope to alter the status of the respondent No.1 company by either terming it as a deemed public company or a public company retaining the fundamental and basic character of a private company. Both these concepts are unknown to law. The REAL question is not whether the failure to amend the Articles of Association by the first respondent company rendered the first respondent company (which is otherwise a private company) a public company, but whether such a failure destroyed the collective right of the members of the first respondent company to have shares whose transferability is subject to limitations and restrictions contained in Article 57 of its Articles of Association. In our opinion, the failure of the first respondent company to amend its Articles of Association to give effect to clause (d) of Section 3(1)(iii) does not effect the operation of its Article 57. The question whether the first respondent Company is a public company or a HYBRID company or a private company was never directly and substantially in issue in Company Petition No.77 of 1990. The parties to the said company petition proceeded on the basis that in view of the fact that an amendment to the Articles of Association to give effect to the newly inserted clause (d) of Section 3(1)(iii) could not be carried on, the first respondent company became a public company. Therefore, the Court never examined that question of law. Hence, it cannot be said that the appellants are precluded from raising such a question of law in the instant appeal. Appeal allowed. Issues Involved:1. Status and character of the respondent company post the Companies (Amendment) Act, 2000.2. Validity and enforceability of the preemption clause in Article 57 of the Articles of Association.3. Effect of the failure to amend the Articles of Association to include clause (d) of Section 3(1)(iii).4. Impact of the amendment on the collective rights of shareholders in hybrid companies.5. Estoppel and res judicata arguments regarding the status of the respondent company.6. Effect of the transfer of shares on the company's status.Issue-wise Detailed Analysis:1. Status and Character of the Respondent Company Post the Companies (Amendment) Act, 2000:The core question was whether the respondent company remained a hybrid company under Section 43A or became a full-fledged public company after the Companies (Amendment) Act, 2000. The court clarified that the real issue was whether the amendment destroyed the rights and obligations created by Article 57 of the Articles of Association. The court concluded that the concept of hybrid companies was not abolished by the amendment. Instead, hybrid companies existing before December 13, 2000, continued to exist, retaining their character and rights as per their Articles of Association.2. Validity and Enforceability of the Preemption Clause in Article 57 of the Articles of Association:The High Court had initially held that once the respondent company became a public company, the preemption clause in Article 57 restricting share transferability became invalid. However, the Supreme Court disagreed, stating that the failure to amend the Articles of Association to include the newly required clause (d) did not affect the operation of Article 57. The collective right of shareholders to restrict share transferability remained intact.3. Effect of the Failure to Amend the Articles of Association to Include Clause (d) of Section 3(1)(iii):The court examined whether the failure to amend the Articles to include clause (d) rendered the respondent company a public company. It concluded that this failure did not automatically change the company's status to a public company. Instead, it remained a hybrid company, and the collective rights of shareholders to restrict share transfers were preserved.4. Impact of the Amendment on the Collective Rights of Shareholders in Hybrid Companies:The court emphasized that the collective rights of shareholders in hybrid companies to restrict share transfers were not destroyed by the amendment. It highlighted that any restriction on such fundamental rights would require express legal authority, which was not provided by the amendment. Therefore, hybrid companies could continue to have provisions in their Articles of Association that restricted share transfers.5. Estoppel and Res Judicata Arguments Regarding the Status of the Respondent Company:The respondents argued that the appellants were estopped from claiming that the respondent company was not a public company due to their opposition to the amendment and a previous judgment. The court rejected this argument, stating that the appellants' opposition to the amendment did not prevent them from arguing that the company was still a hybrid company. Additionally, the previous judgment did not preclude the appellants from raising the issue in the current appeal, as the question of the company's status was not directly and substantially in issue in the earlier case.6. Effect of the Transfer of Shares on the Company's Status:The respondents contended that the transfer of five shares resulted in the membership exceeding fifty, thus rendering the company a public company. The Supreme Court noted that the High Court did not record any finding on this issue and declined to examine it, remitting the matter back to the High Court for consideration.Conclusion:The Supreme Court allowed the appeal, holding that the respondent company remained a hybrid company and that the preemption clause in Article 57 was valid and enforceable. The failure to amend the Articles of Association to include clause (d) did not affect the company's status or the collective rights of shareholders. The matter was remitted to the High Court to consider the issue of the transfer of shares and its impact on the company's status.