Tatas vs Mistry – NCLAT order throws up many questions on corporate democracy

Cyrus Mistry (GettyImages)

J N Gupta

If the judgment of the National Company Law Appellate Tribunal (NCLAT) in the Tata Mistry case is not overturned by the Supreme Court after an appeal from Tata Sons, the rules of internal democracy, functioning of boards and shareholders will have to be rewritten.

For, a majority shareholding then loses its relevance completely and companies will have to function based on what minority shareholders want. In effect, the courts in future will be flooded with cases of oppression of majority by minority.

Para 185 of the NCLAT judgment reads: “ We are of the view that for better protection of interest of all stakeholders as also safeguarding the interest of minority group, in future at the time of appointment of the Executive Chairman, Independent Director and Directors, the ‘Tata Group’, which is the majority group, should consult the minority group i.e., ‘Shapoorji Pallonji Group’, and any person on whom both the groups have trust be appointed as Executive Chairman or Director as the case may be which will be in the interest of the Company and create healthy atmosphere removing the mistrust between the two groups.”

Does this mean democracy? Is that in consonance with the law of land? Is this an advisory or order? Applying the same logic to parliamentary democracy, it would imply that the ruling party can only take decisions with the consent of the opposition party. And it may even suggest that no new law can be passed unless the Opposition gives consent.

Can companies, that too private ones, be subjected to such laws/ rules? In effect, most of the provisions of the Companies’ Act would become redundant.

Public to Private: The conversion of Tata sons from Public to Private Company is held illegal. In the opinion of the NCLAT, approval of the NCLT (National Company Law Tribunal) has not been obtained for change in Articles of the Company and such conversion is oppressive for the minority group. A very strong argument, indeed. However, there is nothing to prove that changes made, if any, in the articles were oppressive.

In fact, the argument that approval of change in articles required approval of the NCLT is itself a flawed logic. Section 14 of the Companies Act, 2013, says: “…any alteration having the effect of conversion of a public company into a private company shall not take effect except with the approval of the Tribunal which shall make such order as it may deem fit.”

Therefore, NCLT approval would have been required for any such change. However, there were no changes in the articles related to conversion from public to private. Hence, no nod of the NCLT was required.

In fact, the measures were to strengthen governance, and therefore not oppressive. The RoC (Registrar of Companies) approval for conversion to private is valid and sufficient.

It is not disputed that Tata Sons was a private firm, but it became a deemed public company because of the change in legislation. The moment the legislation was withdrawn, the original position must be automatically restored.  For example, if certain rights of individuals are curtailed by Section 144 of CrPC (Code of Criminal Procedure) in a city, the rights are restored immediately once the prohibitory order is lifted. Each and every person does not have to approach courts to restore liberty.

Therefore, the RoC was right in accepting change from public to private, and it will be within its rights to contest the order of the NCLAT and seek expunction of remarks alleging the RoC helped Tata Sons in conversion.

Removal of Mistry: The judgment has set aside Mistry’s removal and declared it illegal. It has brought to the fore the procedural issues. But can one take away the rights of shareholders and the board to manage the company in accordance with law? Are we saying form will supersede substance? One doesn’t understand what will be the implications of the order and how is it going to be implemented?  The order states, “… Cyrus Pallonji Mistry is restored to his original position as Executive Chairman of ‘Tata Sons Limited’ and consequently as Director of the ‘Tata Companies’ for the rest of the tenure.”

There are three issues here. First, Mistry is to be reinstated as EC for the rest of his tenure, which came to an end in March 2017. Therefore, it is having no practical consequence.

The other is about Mistry as director of Tata Sons. Does he get the position back? If the order is read properly, it means yes. And that applies not only to Tata Sons, but to all companies in which he was a director. This is extremely complicated.

Mistry ceased to be a director in various Tata companies by three channels -- removal by board, resignation and removal by shareholders of a public listed company in a general meeting. Can such an order restore Mistry’s position in listed companies where shareholders removed him? Can the order restore him as director where he resigned? These are complicated legal matters where consensus is impossible to achieve. Under which provision of law a listed company director can be reinstated unless the company and its shareholders were a party? Can this ever happen?

The third issue is extremely complex, i.e. appointment of N Chandrasekaran is declared illegal ab initio. Since Mistry’s appointment is restored till the end of his tenure i.e. March 2017, what happens after? Is appointment of Ratan Tata as interim Chairman and the search committee also illegal? Possibly yes if one goes by the contents of Paras 184 & 187(i) of the order.

Role of nominee directors: The order is critical of the role played by nominee directors, who by definition in the Companies Act, are not independent directors. However, the verdict indicates that the nominee should be absolutely independent of the nominating party, should not consult the nominating shareholder and must not take instructions. If that is the case, what will be the fate of institutional shareholders?

With that logic, only owner shareholders will rule the board as the rest of the directors will be quarantined from their appointer once appointed. Do we mean to say all government-appointed nominees on various companies will not seek instructions and guidance from the government? All other shareholders such as companies and other entities would have no say because they will be represented by a physical person, who will be a nominee director?

Coming back to Tata Sons, such a situation is ideal for Mistry, or any other non-Tata shareholder because Mistry being on the board, representing his economic and political interest, there will be no separation between him as shareholder and director. The Tata Trusts, having no individual shareholders, would effectively have no representation as directors nominated are not expected to consult Tata Trusts or its board. In effect, nominees of the Trusts would have neither political nor economic interest. Apparently, there is confusion between the duty of director and fiduciary duty. How can one say what is in the interest of 80 percent shareholders is not in interest of the company?

Ratan Tata: The judgment appears to take away freedom of individuals guaranteed under the Constitution. In effect, it has passed some sort of prohibitive order against Ratan Tata and nominee directors. In fact, there is a contrast in the order itself which reads that “Ratan Tata and nominee directors shall desist from taking any decision in advance which requires majority decision”.

How can directors take an advance decision which requires majority approval? They can always make up their mind on the agenda items beforehand that is, the precise reason why the agenda is served in advance. In fact, the Companies Act recommends that independent directors should meet separately. The Act also does not prohibit other directors meeting as well.

Does the order intend that all the directors should become incommunicado after the agenda is received and till the board meeting? The board meeting is not a jury trial where discussion among members is prohibited. Does the order not cast aspersions on integrity and wisdom of directors?

Oppression: It’s a fancy word and appears to be a perfect recipe to achieve desired results. Its emotional quotient is very high. This is the reason why as per the order, Mistry is the oppressed party without any substantial proof. If the board in majority decision did not agree with Mistry, it is oppression. Therefore, as long as all decisions of the board were as decided or desired by Mistry, it was democracy. The moment his writ stops, it is oppression.

Winding up: Para 183 says “…otherwise the facts, as narrated above, it would justify a winding-up order on the ground that it was just and equitable that the company should be wound up and thereby, it is a fit case to pass order under Section 242 of the Companies Act, 2013.”

If removal of an executive chairman by majority of the board and majority shareholders can be treated as a serious act of mismanagement and oppression, leading to the winding-up order, probably most companies would be eligible for such an action. Winding up of a company is akin to death penalty and cannot be treated as a trivial matter deserving a passing remark.

Oppression has been argued based on the Articles of Association (AoA), which existed for long. Even prior to Mistry family becoming shareholders, Tata Sons was a private company. Article 75 of AoA empowers Tata Sons to ask a shareholder to sell their holding through a special resolution, something that can be used against the Mistry family firms to exit.

What is oppression?  The meaning of the term “oppression" as explained by Lord Cooper in the Scottish case of Elder versus Elder & Watson Ltd was cited with approval by Wanchoo J of the Supreme Court of India in Shanti Prasad Jain vs Kalinga Tubes. He said the conduct in question should at least involve a visible departure from the standards of their dealing, and violations of conditions of fair play on which every shareholder who entrusts his money to the company is entitled to rely on.

The complainant must show that he is suffering from oppression in his capacity as a member and not in any other capacity. To constitute oppression, persons concerned with the management must be guilty of fraud, misfeasance or misconduct towards the members. It does not include mere domestic disputes between directors and members or lack of confidence between one set of members and others.

The order fails to establish beyond doubt any ingredient of oppression.

The mismanagement is alleged based on a few instances, which again are mostly management decisions. One case of alleged mismanagement needs special discussion -- Tata Docomo, which in my opinion determines DNA of the company. And explains how trust is created.

No doubt the Tatas may have ended up paying more than what it may have paid had they fought. Yet in their view, money is well spent in keeping faith and trust alive. The decision may not be commercially prudent, but then did the Tatas benefit personally by paying more? If preserving ethical behaviour, culture and founding principles at the cost of financial gain is mismanagement, then certainly allegations of mismanagement are true, but one can never estimate the loss incurred by loss of name and brand.

The battle is now at the final stage and will be fought at the SC’s door. The judgment will be eagerly awaited as it will have far-reaching impact on Corporate India, boards and directors.

J N Gupta is co-founder and managing director of Stakeholder Empowerment Services. Views are personal.