Company law – judicial interpretation Transfer of shares of a public company

In a recent judgement of Western Maharashtra Development Corporation Limited vs. Bajaj Auto Limited, the Bombay High Court has held (among other things) that in case of a “public company”, its shares are freely transferable under the Companies Act, 1956 (the Act) even if the Articles of Association (the Articles) contain restrictive provisions relating to transfer of shares.

Background:

One of the distinctions between private companies and public companies is with regard to freedom to transfer shares as is evident from the definitions in the Act. The definition of “private company” and “public company” as per the Act relevant to this alert are reproduced below:

“private company” means a company which has a minimum paid-up capital of ….. as may be prescribed, and by its articles,

(a) restricts the right to transfer its shares, if any;

(b) limits the number of its members to fifty not including –

(i) ; and

(ii) ; and

(c) prohibits any invitation to the public to subscribe for any shares in, or debentures of, the company;

(d) prohibits any invitation or acceptance of deposits from persons other than its members, directors or their relatives:

 “public company” means a company which

(a) is not a private company;

(b) has a minimum paid-up capital of…… as may be prescribed;

(c) is a private company which is a subsidiary of a company which is not a private company

It therefore follows that Articles of a private company is required to contain restrictions on transfer of its shares. There is no requirement in the Act to provide restrictive conditions in Articles on transfer of shares in case of a public company.

In case of unlisted public companies, the Articles could contain restrictions interse the shareholders with respect to transfer of shares in such companies. The conditions relating to transfer of shares as agreed between the shareholders under a joint venture agreement/ shareholders agreement or similar arrangements are generally incorporated in the Articles of such companies so as to make them binding on the companies.

The Bombay High Court interpreted provision of section 111A of the Act and held that the shares of public companies are freely transferable irrespective of any restriction contained in its Articles.

Section 111A of the Act is applicable to public companies. Section 111A was enacted in the Act as a consequence of enactment of the Depositories Act 1996 to allow free transfer ability of shares. The relevant extract of the provisions of Section 111A (2) of the Act is as under:

“(2) Subject to the provisions of this section, the shares or debentures and any interest therein of a company shall

be freely transferable:           “

Rationale of decision:

The summary of the rationale given by the Bombay High Court with regard to the interpretation of provisions of Section 111A of the Act is as under:

1. In case of a public company, the Act provides that the shares or debentures or any interest therein of a company shall be freely transferable. The provision of the Act for free transfer ability of shares in a public company is founded on the principle that the members of public must have freedom to purchase and, every shareholder, freedom to transfer. The principles of free transfer ability must be given broad dimension in order to fulfil the object of the law. The word “transferable” is of the widest possible import and Parliament by using the expression “freely transferable”, has reinforced the legislative intent of allowing transfer of shares of public company in a free and efficient domain.
2. The incorporation of a Company as public company, as distinguished from the private company, leads to specific consequences and the imposition of obligations envisaged in law. Corresponding to those obligations are rights, which the law recognises as inhering in the members of the public who subscribe to shares.
3. The principle of free transfer ability must be given a broad dimension in order to fulfil the object of the law. An agreement between the shareholders of a public company which has been incorporated in the Articles, to preclude sale to or purchase by the members of the public of the shares, impose a restriction on the free transfer ability of shares. This would be contrary to the provisions of section 111A of the Act read with Section 9 of the Act. Section 9 of the Act gives over riding force and effect to the provisions of the Act, notwithstanding anything to the contrary contained in the Memorandum or Articles of a company or in any agreement executed by it or any resolution of the company in general meeting or its board of directors. A provision contained in Memorandum or Articles, agreement or resolution is to the extent to which it is repugnant to the provisions of the Act is regarded as void. The Court analysed and considered the decisions of V. B. Rangraj Vs. V. B. Goplakrishnan [(1992) 1 SCC 160] and M. S. Madhusoodhanan vs. Kerala Kaumudi Private Limited [(2003) 117 Com Cases 19].
4. The provisions of Section 111A cannot be read as being subject to a contract between shareholders. Firstly, because such a restriction is not mentioned in section 111A of the Act, secondly, the word “transferable” is of the widest import and the context in which the provision has been introduced requires to be given a wide meaning.

Conclusion:

• This decision will not affect the restrictions on transfer of shares contained in the Articles of a private company.

• The decision will require a re-look of Articles of public companies which contains restrictions on transfer of shares and debentures such as Right of First Refusal [ROFR], Tag-along rights, Drag-along rights and similar other arrangements.

Source: Judgement of the Bombay High Court dated 15^th February 2010 in case of Western Maharashtra Development Corpn. Ltd. Vs. Bajaj Auto Limited.

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