Shareholders' rights in private and public companies in India: overview

A Q&A guide to shareholders' rights in private and public companies law in India.

The Q&A gives an overview of types of limited companies and shares, general shareholders' rights, general meeting of shareholders (calling a general meeting; voting; shareholders' rights relating to general meetings), shareholders' rights against directors, shareholders' rights against the company's auditors, disclosure of information to shareholders, shareholders' agreements, dividends, financing and share interests, share transfers and exit, material transactions, insolvency and corporate groups.

Sakate Khaitan, Sangeeta Jhunjhunwala and Varsha Jalan, Khaitan Legal Associates
Contents

Types of limited companies and shares

1. What are the main types of companies with limited liability and shareholders? Which is the most common? Which type do foreign investors most commonly use?

The law governing companies in India is currently in a state of transition. Various provisions of the (Indian) Companies Act 2013 (CA 2013) were introduced in September 2013 and April 2014, following which the corresponding provisions of the (Indian) Companies Act 1956 (CA 1956) were repealed. At present, 282 sections of the 2013 Act have been brought into force. Aspects involving the court/tribunal process mostly continue to be governed by the provisions of the CA 1956.

The Indian Parliament has also passed the Companies (Amendment) Bill 2015 (Amendment) amending certain provisions of CA 2013. The Amendment will come into force once it receives the President's assent and is published in the Official Gazette.

In India, the main types of companies that can be incorporated are private limited companies and public limited companies, limited either by shares or by guarantee. The minimum requirements for paid-up share capital, directors and shareholders is prescribed under the CA 2013 for each form of entity. The concept of one person companies have also been recently introduced under the CA 2013.

The choice of entity varies depending on various factors, although private limited companies are quite common in India. However, certain sector specific laws require a particular form of entity to be incorporated, for example, an insurance company in India must be incorporated as a public limited company.

Subject to sectoral restrictions, foreign investors usually prefer to incorporate a private limited company in India. Private limited companies enjoy the advantages of certain compliance exemptions. It is also possible to place restrictions on the free transferability of shares in a private limited company, which tends to provide foreign investors with stable ownership and control.

 
2. What are the minimum share capital requirements for companies?

The minimum paid-up share capital requirements are (2015):

  • INR100,000 for a private limited company.

  • INR500,000 for a public limited company.

However, the minimum capital requirement is set to be deleted once the Companies (Amendment) Bill 2015 comes into force.

 
3. Briefly set out the main types of shares typically issued by a company and the main rights they provide. Set out the other main financial instruments (for example, bonds) and participation instruments that can be issued by a company.

Typically, an Indian company raises funding by issuing equity instruments, debt instruments and through mezzanine financing. The main types of shares which are issued are equity shares and preference shares. Both types of shares grant participating rights to their holders.

The key aspects of these instruments are as follows:

  • Equity shares grant voting rights to the holder.

  • Equity shares do not guarantee a fixed return and, in a liquidation scenario, equity shareholders are entitled to a return after all statutory and other pay-outs are made.

  • Preference shareholders are given a preference with respect to payment of dividend and repayment in case of liquidation of the company and enjoy limited voting rights.

  • Preference shareholders can vote only on such matters which affect their rights, and in resolutions for winding-up of the company or for repayment or reduction of its equity or preference share capital.

  • Preference shares may be fully or partly convertible into equity shares, or have a right to a cumulative dividend. The terms of issue of preference shares and rights of the preference shareholders are generally negotiated before their issue.

Debentures, which are debt instruments, and other securities such as stocks, bonds, warrants, derivative instruments, and so on, are also issued by a company, however, these do not carry participative rights in the company.

Convertible instruments like convertible debentures and convertible preference shares are also issued by Indian companies. These instruments are converted into equity shares of the company at a pre-agreed duration.

 
4. What is the minimum number of shareholders in a company?

The minimum numbers of shareholders vary depending on the type of a company:

  • One for a one person company.

  • Two for a private limited company.

  • Seven for a public limited company.

The shareholder in a one person company is required to be a natural person, who is a resident in and a citizen of India.

 

General shareholders' rights

5. What are the general rights of all shareholders? How can shareholders' rights be varied (for example, additional rights attaching to a class of shares, or limitations on shareholders' rights?) Are such variations generally provided in the company's bye-laws and shareholders' agreements?

Shareholders have the rights to:

  • Appoint directors.

  • Attend and vote at general meetings.

  • Inspect statutory registers and minutes books.

  • Receive copies of financial statements.

  • Initiate winding up of the company.

Minority shareholders have additional rights (see Question 6).

Where a company has different classes of shares, the rights of any share class can be varied with the consent of three-quarters of holders of that class of shares subject to the provisions of the charter documents of the company and terms of issue of that class of shares.

Usually, additional rights of the shareholders towards the company are agreed to in the shareholders' agreement. Such rights include:

  • Board representations.

  • Management rights.

  • Access to additional information and records of the company.

  • Liquidation preferences.

Such rights are recommended to be incorporated in the charter documents of the company.

 
6. Briefly set out the rights of minority shareholders and the shareholding required to exercise such rights.

Minority shareholders have certain statutory rights, including rights to:

  • Requisition a general meeting.

  • Approach the courts to cancel variation of rights.

  • Approach the Company Law Board in case of oppression and mismanagement.

The Companies Act 2013 also grants minority shareholders the right to initiate a class action suit in specified circumstances.

Requisition of general meeting

A minimum of 10% of the shareholders carrying voting rights in the company have the right to requisition the directors to convene an extraordinary general meeting of the company. If the directors fail to convene the meeting then those shareholders have the right to call the meeting on their own.

Variation of shareholders' rights

A minimum of 10% of the holders of the class of shares whose rights are being varied have the right to apply to the court to have the variation of rights attached to their shares cancelled if they do not consent to this variation.

Oppression and mismanagement

A minimum of 100 or 10% of shareholders, whichever is less, or members holding at least 10% of the issued share capital of the company have the right to approach the Company Law Board, in case the affairs of the company are being conducted in a manner:

  • Prejudicial to public interest, or the interest of the company.

  • Oppressive to any member of the company.

Class action suit

The CA 2013 introduced the concept of class action suit in India. However, the provisions relating to class action suits have not yet been brought into force, and detailed rules and eligibility criteria are yet to be introduced.

In addition to the statutory rights, minority shareholders may have certain contractual rights towards other shareholders which include veto rights, board representations, and exit rights. These rights are recommended to be incorporated in the articles of association of the company.

 
7. How influential are institutional investors and other shareholder groups in monitoring the company's actions (for example, corporate governance compliance)? List any such groups with significant influence in this area.

Generally, unlike in Europe or the US, institutional investors do not exercise significant control over the company's actions. However, with the recent changes in law and enhanced obligations of the independent directors on the board, this trend is changing.

Institutional Shareholder Services Inc. (ISS) (the largest advisory firm for institutional shareholders) has recently established its presence in India.

 

General meeting of shareholders

Calling a general meeting

8. Does a company have to hold an annual shareholders' meeting? If so, when? What issues must be discussed and approved? Which decisions must be approved by the shareholders in a general meeting?

An Indian company is mandatorily required to hold an annual shareholders' meeting called the annual general meeting (AGM). The first AGM must be convened within nine months of closing of the first financial year, and subsequent AGMs must be convened within six months of closing of each financial year. Companies may seek extensions by six months for holding the AGM, by making an application to the Registrar of Companies. A financial year generally begins on 1 April and ends on 31 March of the subsequent year.

The AGM must be convened during business hours,that is between 9am to 6pm on a day other than a national holiday. The AGM must be convened at:

  • The registered office of the company.

  • Any other place situated within the city, town or village where the registered office of the company is situated.

The mandatory items on the agenda for the AGM are:

  • Adoption of the financial statements.

  • Appointment or ratification of appointment of auditors of the company.

  • Appointment of directors in place of those retiring by rotation (in the case of a public company).

During the year, a company can also convene extraordinary general meetings to deliberate on matters which require shareholders' consent.

 
9. Can a general meeting be held by telecommunication means or written/electronic approval?

An Indian company cannot convene a general meeting by telecommunication means. However, for certain matters, approval of the shareholders can be sought by way of postal ballot or by voting through electronic means.

The Companies Act 2013 lists the matters which must be approved by postal ballot/electronic voting and also the matters which must be resolved in a physical meeting. The following decisions cannot be passed by means of a postal ballot:

  • Consideration of financial statements.

  • Declaration of dividends.

  • Appointment of directors in place of those retiring.

  • Appointment of auditors.

 
10. What are the notice, information, and quorum requirements for holding general meetings and passing resolutions?

Notice requirements

At least 21 clear days' notice must be given to the members, directors and auditors of the company for convening a general meeting. A shorter notice may be given subject to the provisions of the charter documents of the company and with the consent of at least 95% of the members entitled to vote at such meeting.

The notice must be in writing and can be served physically, by post or through electronic means. Notice of an adjourned meeting must be given to the shareholders individually or published in the newspapers. Notice of resolutions requiring special notice, must also be published in the newspapers. Further, notice of the final meeting of a company before dissolution must also be published in the newspapers.

Information requirements

The notice must specify the date, day, place and the hour of the meeting and a statement of the business to be transacted at the meeting. In addition to this, a statement containing the details of each item of business to be transacted, (explanatory statement), must be annexed to the notice. This explanatory statement is not required to be given for matters which form part of the mandatory agenda of the annual general meeting.

The details which must be covered in the explanatory statement include the nature of concern or interest, if any, of its directors, managers, key managerial personnel, and their relatives.

Quorum requirements

For a private limited company, the minimum quorum requirement is of two members.

For a public company, the quorum requirement is as follows:

  • 5 members, if total members are 1,000 or less.

  • 15 members, if the total number is between 1,000 to 5,000.

  • 30 members, if the total members exceeds 5,000.

The articles of association can provide for a larger number of members for quorum. A member is counted for the purposes of quorum only if such member is physically present at the meeting. A proxy is not counted for the purposes of quorum.

 

Voting

11. What are the voting requirements for passing resolutions at general meetings?

Resolutions can be passed by simple majority or special majority (see Question 12).

The Companies Act 2013 recognises the following manners of voting:

  • Voting by show of hands. A shareholders' resolution is generally passed by way of show of hands, unless a specific mode is prescribed in the statute. On voting by show of hands, every member present at the meeting has one vote, irrespective of the number of shares held by him. Proxies are not permitted to vote on show of hands.

  • Voting by demand for poll. The Chairman of the meeting may order voting by poll or shareholders may demand a poll. The voting rights of equity shareholders on a poll are generally in proportion to their shareholding. However, in case of differential rights as to voting, a particular class of equity shares may also have weighted voting rights.

  • Voting by electronic means. Every listed company or a company having 1,000 shareholders or more, must provide its members with the facility to vote at general meeting by electronic means.

  • Voting through postal ballot. A resolution can also be passed by way of postal ballot (see Question 9).

A shareholder has the right to appoint a proxy by following the prescribed process. While the proxy can vote on behalf of the shareholder on poll, his presence at the general meeting is not counted for the purpose of quorum. The instrument appointing a proxy must be in writing and be signed and sealed by the appointer or his attorney.

Indian companies can, subject to their articles of association, issue equity shares with differential rights. The issue of such shares has been statutorily capped at 26% of the post-issue paid-up equity share capital of the company. These differential rights can be with respect to dividend payments, voting at meetings or otherwise.

Pooling agreements where shareholders agree to vote as a single unit are generally enforceable in India. However, shareholders are not permitted to achieve by a pooling agreement what is prohibited to them if they were voting individually.

 
12. Are specific shareholder approvals/resolutions required by statute for certain corporate actions? What voting requirements and majorities apply?

The statute specifies the matters for which shareholders' approval is required. These include appointment of directors, alteration of the company's charter documents, issue of securities by the company, declaration of dividend, winding-up of the company, transactions with related parties that cross the thresholds prescribed under the Companies Act 2013 (CA 2013), voluntary winding-up of the company, and so on.

The CA 2013 provides for two types of shareholders' resolutions:

  • Resolutions passed by simple majority require a simple majority of votes cast by members voting in person, via proxy or postal ballot, as the case may be.

  • Special majority require a three-quarters majority of the votes cast by members voting in person, via proxy or postal ballot, as the case may be.

If the company's articles of associations so require, conditions or procedures more restrictive than a special resolution must be complied with to alter certain provisions of the articles.

 

Shareholder rights relating to general meetings

13. Can a shareholder require a general meeting to be called? What level of shareholding is required to do this? Can a shareholder ask a court or government body to call or intervene in a general meeting?

Shareholders have the right to requisition the directors to convene extraordinary general meetings (EGMs). The requisition must be made by members, holding a minimum of at least 10% of the paid-up share capital of the company.

A shareholder has the right to apply to the Company Law Board (CLB) for a direction to call an annual general meeting, if it has not been called by the directors, as per the statutory requirements. A shareholder can also apply to the CLB to convene an EGM, if it is of the opinion that it is otherwise impracticable to call such a meeting.

 
14. Can a shareholder require an issue to be included and voted on at a general meeting? What level of shareholding is required to do this? Can a shareholder require information from the board about the meeting's agenda?

Only matters mentioned in the notice of a meeting can be voted on at a general meeting. If any item of business for which the meeting was requisitioned is not included in the notice, all shareholders have a right to approach the Company Law Board for inclusion of such missing items.

An explanatory statement must be circulated with the notice for calling every general meeting of the company, with respect to items of business other than matters which form part of the mandatory agenda of the annual general meeting.

 
15. Do shareholders have a right to resolve in a general meeting on matters which are not on the agenda?

Shareholders of Indian companies do not have a right to resolve matters which are not on a general meeting's agenda (see Question 14).

 
16. Can a shareholder challenge a resolution adopted by a general meeting? Is a certain shareholding level required to do this? What is the time limit and procedure to challenge a general meeting resolution?

A single shareholder holding a minimum of 10% of the company's paid-up share capital can challenge a resolution adopted by a general meeting on the grounds of oppression or mismanagement. Such a challenge can be brought about by filing a petition before the Company Law Board.

A single shareholder, irrespective of his shareholding in the company, can also bring a derivative suit challenging a resolution adopted by a general meeting, on behalf of the company, if that resolution was detrimental to the interest of the company. However, such action by a shareholder is only maintainable if he has approached the court with "clean hands". The procedure for derivative action has been set out in the (Indian) Code of Civil Procedure 1908.

No time limit has been prescribed for challenging such a resolution, however, it should be challenged within a reasonable period of time, and not beyond the limitation period for that action.

 

Shareholders' rights against directors

17. What is the procedure to appoint and remove a director?

Generally, a shareholders' ordinary resolution is required for the appointment and removal of directors under the Companies Act 2013. The following directors can also be appointed in a board meeting of the company:

  • Additional director, to hold office till the date of the company's next annual general meeting.

  • Alternate director, to act as an alternate for a director during his absence from India for a period of three months or more.

  • Nominee director nominated by any institution under any law in force at the time or any agreement.

  • Director appointed in the case of a casual vacancy in the office of any director appointed in a general meeting in a public company.

 
18. Can shareholders challenge a resolution of the board of directors? Is there a minimum shareholding required to do this?

Shareholders can challenge a resolution of the board of directors on the grounds of mismanagement, if it is prejudicial to public interest or the interest of the company. For minimum shareholding required to initiate such an action, see Question 6.

A shareholder may also initiate a derivative action against the board of directors on behalf of the company, if the resolution passed by the board of directors is prejudicial to the interests of the company (see Question 16).

 
19. Briefly set out the main directors' duties to the company and its shareholders. What is the potential liability of directors to the shareholders? Can their liability be limited or excluded? On what grounds can shareholders bring legal action against the directors?

Duties of directors are specified under various statutes. In addition, directors have a fiduciary duty towards the company and its shareholders. Some of their main duties as directors, are (Companies Act 2013 (CA 2013)):

  • Act in accordance with the company's articles of association.

  • Act in good faith in order to promote the objects of the company for the benefit of its members as a whole, and in the best interests of the company, its employees, the shareholders, the community and for the protection of the environment.

  • Exercise their duties with due and reasonable care, skill and diligence and exercise independent judgement.

  • Not get involved in a situation in which they may have a direct or indirect interest that conflicts, or possibly may conflict, with the interests of the company.

  • Not achieve or attempt to achieve any undue gain or advantage either to themselves or to their relatives, partners, or associates.

  • Not assign their office.

Apart from the CA 2013, directors are also liable for certain duties under employment and taxation laws in India.

Although directors do not have any express liability towards the shareholders of a company under Indian law, due to the nature of their fiduciary relationship with the shareholders, under certain limited circumstances directors may be held personally liable for losses suffered by shareholders.

There is no provision for the limitation of liability of a director. However, a director will not be considered "an officer in default" under the CA 2013, and held liable for any contravention of a duty under the CA 2013, if he was not aware of the contravention, or objected to it.

Shareholders can bring legal action against the directors in the following cases (CA 2013):

  • The affairs of the company are being conducted in a manner prejudicial to public interest, or the interests of the company.

  • The directors have resolved to carry out acts ultra vires the constitution of the company or any applicable laws.

  • Fraud.

  • Transfer of the company's assets at an undervalue.

  • Diversion of the funds of the company.

  • Breach of directors' duty of good faith.

 
20. Are directors subject to specific rules when they have a conflict of interest relating to the company? Are there restrictions on particular transactions between a company and its directors? Do shareholders have specific rights to bring an action against directors if they breach these rules?

Directors are subject to certain specific rules when they have a conflict of interest relating to the company with respect to certain contracts and arrangements. They must periodically disclose to the company their concern or interest in other entities. Approval of the board of directors or shareholders is required for the following related party transactions:

  • Purchase, sale or supply of goods, materials, services or property.

  • Appointment of an agent for purchase, sale or supply of goods, materials, services or property.

  • Appointments of any related party of the director to any office of profit of the company, its subsidiary or associate company.

  • Underwriting the subscription of any securities or derivatives of the company.

A director with a potential conflict is also prohibited from voting on such a resolution.

A company is not permitted to advance loans to, or give guarantee or security in respect of loans, to a director or any other person in whom the director is interested.

In case of breach of these rules by the directors, shareholders would have the right to bring an action for mismanagement or derivative action against the directors (see Question 18).

 
21. Does the board have to include a certain number of non-executive, supervisory or independent directors?

Under the Companies Act 2013, certain types of public companies are required to appoint independent directors to their board. For example, a minimum of one-third of the directors of a listed public company must be independent directors.

Unlisted public companies must have at least two independent directors on their board if they have:

  • Share capital exceeding INR100 million.

  • Turnover exceeding INR1 billion.

  • Outstanding loans, debentures and deposits exceeding INR500 million in aggregate.

 
22. Do directors' remuneration and service contracts have to be disclosed? Is shareholder approval of directors' remuneration required?

Generally, directors' remuneration and service contracts are not required to be disclosed. However, under the Companies Act 2013 (CA 2013), the terms and conditions of appointment and remuneration of a managing director and whole-time director must be disclosed to, and approved by the board of directors, as well as the shareholders at the time of their appointment.

The CA 2013 has laid down certain thresholds for maximum individual as well as overall remuneration payable to managerial personnel, including directors of public companies. Approval of the central government and the shareholders of the company is required for payment of remuneration exceeding such thresholds.

 

Shareholders' rights against the company's auditors

23. What is the procedure to appoint and remove the company's auditors? What restrictions and requirements apply to who can be the company's auditors?

Appointment of auditors

Under the Companies Act 2013 (CA 2013), the first auditor of a company must be appointed by its board of directors in the first board meeting of the company. Then the auditor is appointed by the shareholders in an annual general meeting (AGM), at the recommendation of the board of directors or audit committee. Such appointment is made for a period of five years at a time, and is subject to ratification by way of an ordinary resolution in every AGM.

A casual vacancy in the auditor's office can be filled by the board of directors within 30 days of that vacancy. In case of the existing auditor's resignation, appointment of a new auditor must be approved by the company at the general meeting within three months of such resignation.

Removal of auditors

Under the CA 2013, a company can remove its auditor from office before the expiry of its term by passing a special resolution, after obtaining the requisite approval from the central government.

Restrictions and requirements for appointment as auditor

There are a number of restrictions under the CA 2013. The following are examples:

  • Only a chartered accountant, or a chartered accountant's firm is eligible for appointment as an auditor of a company.

  • For certain types of companies, the term for appointment and re-appointment of an auditor has been restricted to:

    • Five years in case of an individual auditor;

    • Ten years in case of an auditor's firm.

  • The number of companies that an auditor can audit at a time has also been restricted to 20.

  • Certain types of bodies, for example corporate bodies, employees of the company, or related parties, are also restricted from being appointed as auditors of a company.

 
24. What is the potential liability of auditors to the company and its shareholders if the audited accounts are inaccurate? Can their liability be limited or excluded?

If the audited accounts are found to be inaccurate, apart from the penalty imposed under the Companies Act 2013, the auditor will also be liable to:

  • Refund the remuneration received for the audit to the company.

  • Pay damages to the company, statutory bodies, and authorities or any other person in respect of loss incurred by such person due to the inaccuracy. Such liability of auditors cannot be limited or excluded.

However, auditors usually procure a professional indemnity insurance cover, although this is not statutorily required.

 

Disclosure of information to shareholders

25. What information about the company do the directors have to provide and disclose to its shareholders? What information and documents are shareholders entitled to receive?

The directors of a company must submit an annual report (board's report) to the shareholders at the annual general meeting. The board's report must be circulated to all shareholders of the company at least 21 days prior to such meeting.

The board's report includes details of:

  • Number of board meetings held in the year.

  • Whether the accounts of the company have been prepared in accordance with applicable laws.

  • Whether the directors have devised proper systems to ensure compliance with the provisions of all applicable laws.

  • Qualifications and adverse remarks in the auditor's report and the secretarial audit report.

  • Particulars of loans, guarantees and investments made by the company.

  • Contracts with related parties, details of the risk management policy of the company, and dividends recommended to be paid to the shareholders.

Shareholders are also entitled to receive the following information and documents:

  • Audited financial statements of the company along with the auditor's report and other documents required under the Companies Act 2013 to be laid before the general meeting of a company.

  • Statutory registers maintained by the company, such as the register of members, register of debenture-holders, register of directors and key managerial personnel, register of related party transactions, and so on.

  • Extract of the annual returns of the company, as laid before the shareholders as part of the board's report.

  • Minutes of the proceedings of general meetings of the company and resolutions passed by postal ballot.

 
26. What information about the company do the directors have to disclose under securities laws (where applicable)?

Directors of public listed companies must disclose their shareholding details and voting rights above a prescribed threshold in other public listed companies (Securities and Exchange Board of India (Prohibition of Insider Trading) Regulations 1992).

Public listed companies must also make various continuous as well as event-based disclosures to the relevant stock exchange where the shares of the company are listed, and also to the Securities and Exchange Board of India (SEBI), the securities market regulator of India.

 
27. Is there a corporate governance code in your jurisdiction? Do directors have to explain to shareholders in the company's annual report if they have not complied with it (comply or explain approach)?

Indian companies are subject to the corporate governance code with respect to a number of matters including:

  • The rights, duties and responsibilities of the directors, shareholders and other stakeholders of the company.

  • Composition of the board of directors.

  • Distribution of powers between the board and shareholders.

  • Accounting and auditing of the company.

In addition, public listed companies must also comply with the corporate governance requirements set out in clause 49 of the listing agreement with the relevant stock exchanges.

Before every annual general meeting, the directors of the company must submit a board's report containing the directors' responsibility statement. This statement discloses if the directors have devised proper systems to ensure compliance with the provisions of all applicable laws and that such systems are adequate and operating.

 
28. What information can shareholders request from the board about the company? On what grounds can disclosure of company information be refused? Are shareholders entitled to inspect the company's books and similar company documents?

See Question 25 for information rights of shareholders.

Shareholders are not entitled to inspect the company's books of accounts under the statutes. However, such rights of shareholders, including inspection of the company's books, are usually commercially negotiated between the parties and are incorporated in the shareholders' agreement and articles of association.

 

Shareholders' agreements

29. Briefly set out the main provisions of a typical shareholders' agreement.

A typical shareholders' agreement generally has the following provisions:

  • Business plan of the company and management of business.

  • Further/additional funding of the company.

  • Restrictions on share transfer and pre-emption rights.

  • Method of valuation of shares.

  • Voting and management rights of the shareholders.

  • Deadlock resolution process.

  • Additional information rights.

  • Representations and warranties of the shareholders and the company.

  • Exit rights of shareholders such as tag and drag rights, call and put options, and so on.

  • Termination clause.

  • Indemnity.

  • Confidentiality, non-disclosure and non-compete clause.

  • Governing law and dispute resolution clause.

However, this is not an exhaustive list, and depending on the commercial understanding between the shareholders, and the type and amount of investments, the terms of a shareholders' agreement could vary.

 
30. Are there circumstances where shareholders' agreements can be enforceable against third parties?

The concept of privity of contract is recognised in India. The general rule of privity is that only those persons who are entitled to benefits or bound by obligations under a contract, are entitled to sue or be sued under it. Therefore, an agreement can only be enforceable against any of the parties to the agreement, and not against any third parties. However, there are certain exceptions to this rule of privity, such as the beneficiary of a contract, collateral contracts, assignment of benefits of the contract, and so on. As the parties to a shareholders' agreement are generally the shareholders and the company in which they hold shares, a shareholders' agreement is generally only enforceable against the parties to the agreement, and not against any third parties.

 
31. Do shareholders' agreements have to be publicly disclosed or registered?

Shareholders' agreements are not ordinarily required to be publicly disclosed or registered in India. However, certain terms of a shareholders' agreement, relating to the management and governance of the company, are generally incorporated in the company's articles of association, which is a public document filed with the registrar of companies. Usually, the commercial arrangements between the parties are not incorporated in the articles of association.

In certain sectors such as insurance, the shareholders' agreements must be filed with the sector regulator.

 

Dividends

32. How can dividends be paid to shareholders and what procedures and restrictions apply? Is it possible to exclude or limit the right of certain shareholders to dividends? Is the payment of interim dividends allowed?

A company can pay dividends, as declared in a general meeting, including interim dividends.

Dividends can only be declared out of the profits of the company for that year, or the accumulated profits of the company for previous years, after providing for depreciation or out of money provided by the government for payment of dividends. The Companies Act 2013 (CA 2013) prohibits a company from paying dividends from any reserves, other than free reserves. The company can distribute dividends to its shareholders in cash, by cheque or warrant or in any electronic mode.

It is also possible under the CA 2013 to exclude or limit the right of certain shareholders to dividends, by issuing shares with differential rights as to dividends.

 

Financing and share interests

33. Can shareholders grant security interests over their shares?

Shareholders can grant security interest, for example, by way of mortgage, pledge or hypothecation, over their shares in Indian companies.

 
34. Are there restrictions on financial assistance for the purchase of a company's shares?

Under the Companies Act 2013, a public company is restricted from giving any loan, guarantee, security or any other financial assistance for the purchase or subscription of shares by any person in that company, or its holding company. However, this restriction is subject to certain exceptions, such as lending by a banking company in the ordinary course of its business and financial assistance by company for subscription of such shares by its employees.

Restrictions have also been imposed upon the use of external commercial borrowings for on-lending or investment in capital markets, or acquiring a company or part of it in India under the Foreign Exchange Management (borrowing or lending in foreign exchange) Regulations 2000.

The end-use of financial assistance received by a person can also be contractually restricted to include restrictions on the purchase of shares and securities from such facilities.

 

Share transfers and exit

35. Are there any restrictions on the transfer of shares by law? Can the transfer of shares be restricted? What are the rights of shareholders in the case of an issue of new shares (pre-emption rights)?

Private companies can place restrictions on the free transferability of shares. However, shares of a public company must be freely transferrable.

The shareholders of all companies, including public companies, are permitted under the Companies Act 2013 to enter into contracts to restrict the rights of their shareholders with respect to such transfers. However, such agreements will only be enforceable against the company if it is a party to it. In practice, such restrictions are also recorded in the investee company's articles of association. Typical clauses that restrict transfer of shares are:

  • The call option.

  • Right of first offer.

  • Right of first refusal.

  • Right of last offer.

  • Drag-along right.

In the case of a new issue, existing shareholders may have anti-dilution and pre-emption rights, if these are agreed in the shareholders' agreement and the articles of association. These are rights that entitle a shareholder to ensure that his shareholding percentage in the company does not drop in case of any further issue of shares by the investee company.

 
36. Can minority shareholders alter or restrict changes to the company's share capital structure?

Minority shareholders have the following rights to alter or restrict changes to the company's share capital:

  • Variation of shareholders' rights. Under the Companies Act 2013, holders of 10% of shares of a particular class, who do not consent to the variation of the rights attached to that class of shares, have the right to apply to the court to have that variation cancelled.

  • Oppression and mismanagement. In case of wrongful dilution of the shareholding of the minority shareholders, they can initiate proceedings for oppression and/or mismanagement against the majority shareholders and/or the directors of the company, as the case may be.

  • Contractual rights under the shareholders' agreement. The minority shareholders of a company can also alter or restrict changes to a company's share capital by including in their shareholders' agreement provisions relating to:

    • pre-emptive rights;

    • restriction on transfer of shares;

    • affirmative voting rights at the board and shareholder level, and so on.

  • To ensure that the company is also bound by these terms, it is recommended that the company is made a party to the shareholders' agreement and that the terms of the shareholders agreement are incorporated in the articles of association of the company.

 
37. When are shareholders required to notify changes to their shareholding to a regulatory authority?

The obligation to notify changes in the shareholding arises under various statutes. While in some instances the obligations have been cast on the shareholders to notify the changes, in others the obligation is that of the company.

For certain sectors, changes in shareholding must also be reported to the sector regulator.

The reporting requirements are briefly set out below:

  • Securities Law. A shareholder of a public listed company, whose shareholding has changed beyond thresholds laid down by the Securities and Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations 2011, must notify the change to the Securities and Exchange Board of India.

  • Exchange Control Laws. In case of a transfer of shares from a resident to a non-resident or vice versa, the resident party must report such a transfer of shares to the Reserve Bank of India within 60 days from the date of receipt of consideration for the transfer.

  • Companies Law. Listed companies must file a return with the registrar of companies with respect to the change in shareholding of its promoters and top ten shareholders within 15 days of such change.

 
38. Can companies buy back their shares? Which limitations apply?

Indian companies are permitted to buy back their own fully paid-up shares by passing a special resolution to that effect in its general meeting. This is subject to the following rules:

  • A company cannot buy back its own shares through any of its:

    • subsidiary companies; or

    • investment companies, or any group of investment companies.

  • The buyback must be made out of the free reserves, securities premium account or proceeds of issue of any shares or securities of the company, except that of an earlier issue of the same kind of shares or securities.

  • A company is restricted from buying back its shares if it defaults in repayment of deposits, payment of interest, redemption of preference shares or debentures, payment of dividends or repayment of term loan or interest.

  • A company cannot buy back more than 25% of the aggregate of its paid-up capital and reserves.

  • After buyback, the ratio of debts to capital of the company should not exceed 2:1.

  • An offer of buyback cannot be made within one year from the date of closure of any preceding buyback.

  • Once the buyback is completed, the company cannot make a further issue or allotment of the same kind of shares within six months.

Public listed companies are also required to follow the procedure for buyback, as prescribed under the Securities and Exchange Board of India (Buy Back of Securities) Regulations 1998.

 
39. What are the main ways for a shareholder to exit from the company? Can shareholders require their shares to be repurchased by the company? Can shareholders be required to exit the company in certain circumstances? How are the shares valued in this case?

Exit from the company

The main way for a shareholder to exit from a company is by a transfer of his shares. Exit can also be effected by a buyback of shares or capital reduction by the company. In the case of public listed company, promoters must grant an exit opportunity to the shareholders in cases of takeovers or de-listing of securities.

A shareholder cannot require the company to repurchase its shares.

While a shareholder cannot be required to exit the company (by the company itself), capital reduction may result in the exit of a shareholder. The majority shareholders holding at least 90% of equity shares have the right to buy out the minority shareholders. This provision has not yet come into force.

Valuation of shares

The methods of valuation of shares differ depending on the reason for valuation:

  • Transfer of shares. Shareholders of a non-listed company are permitted to contractually negotiate the price at which they may transfer their shares. The Companies Act 2013 does not require the shares to be valued.

    However, in case of a transfer of shares from an Indian resident to a non-resident or vice versa, the shares are required to be valued as per any internationally accepted pricing methodology on arm's length basis under the Foreign Exchange Management (Transfer and Issue of Security by a Person Resident Outside India) Regulations 2000.

    In case of a listed public company, shares are transferred as per market price prevailing on the floor of the recognised stock exchanges.

  • Buyback and capital reduction. No specific mode of valuation has been prescribed for buyback of shares by a company. However, in case of a capital reduction, the shares of the exiting shareholders are required to be valued as determined by the court.

  • Securities regulations. In case of exit of a shareholder of a listed public company, through takeover or delisting, shares are required to be valued as per the detailed pricing guidelines, as mentioned in the relevant Securities and Exchange Board of India regulations.

 

Material transactions

40. What rights do shareholders have in the case of material transactions, such as a sale of all or substantially all of the company's assets, and a company reorganisation such as a merger or demerger?

Under the Companies Act 2013, a company is permitted to enter into the following material transactions only after consent to do so has been granted by a shareholders' special resolution:

  • Sale, lease or otherwise disposing of whole or substantially the whole of any of the company's undertakings.

  • Investment of the compensation received by such company as a result of any merger or amalgamation.

  • Borrowing money exceeding the paid-up share capital and free reserves of the company, other than from the company's bankers in the ordinary course of business.

  • Remitting or giving time for repayment of any debt due from a director.

  • Reorganisation of the company in the form of a merger, amalgamation or demerger.

 
41. What rights do shareholders have if the company is converted into another type of company (consider if applicable, a European Company (SE))?

Companies are permitted to convert into a different type of a company. A private company can be converted into public company and vice versa. The conversion requires:

  • Approval of the shareholders.

  • Alteration of the charter documents of the company.

  • Filings with the registrar of the companies to obtain a fresh certificate of incorporation.

   

Insolvency

42. What rights do shareholders have if the company is insolvent?

In case of insolvency of a company, its shareholders have the right to apply to the court for its winding-up. In case of surplus assets, after satisfaction of all preferential claims, they also have the right to distribution of the assets, in accordance with their rights in this regard.

 
43. Can shareholders put the company into liquidation? What is the procedure to do this?

Shareholders can initiate voluntary winding-up of the company. The liquidation process can be initiated by:

  • A simple majority of the shareholders of a company, in case of a limited duration company.

  • A majority of three-quarters of the shareholders in case of other types of companies.

Upon passing the resolution for winding-up, the shareholders appoint the liquidator for the purpose of winding up the affairs and distributing the assets of the company. The powers of the board of directors of the company ceases on the appointment of the liquidator.

 

Corporate groups

44. Is the concept of a corporate group recognised under specific legislation?

The concept of a corporate group has been recognised under specific laws.

The Foreign Exchange Management (Transfer and Issue of Security by a Person Resident Outside India) Regulations 2000 define a group company as two or more enterprises which, directly or indirectly, are in a position to:

  • Exercise 26% or more of voting rights in the other enterprise.

  • Appoint more than 50% of the members of the board of directors in the other enterprise.

The Competition Act 2002 defines a group as two or more enterprises which, directly or indirectly, are in a position to:

  • Exercise 26% or more of the voting rights in the other enterprise.

  • Appoint more than 50% of the members of the board of directors in the other enterprise.

  • Control the management or affairs of the other enterprise.

Although other laws, including the Companies Act 2013, the Income Tax Act 1961, Foreign Exchange Management Act 1999 and the Securities and Exchange Board of India Act 1992 do not expressly define the term group, they recognise the concepts of holding companies, subsidiary companies, associate companies, and so on.

 
45. Does a controlling company have any duties and liability to the shareholders of the company it controls? What are the rights of company shareholders if the controlling company carries out actions that are prejudicial to the shareholders?

Under the current legislation no specific duties have been cast upon the controlling shareholder. However, the controlling company must conduct the affairs of the company in a manner that is neither prejudicial to the public interest nor oppressive to any of the other shareholders of the company.

In case the controlling shareholder carries out an action that is prejudicial to the other shareholders, such shareholders have a right to initiate proceedings in the Company Law Board for oppression of the minority. For the minimum shareholding requirements for filing an application, see Question 6.

A minority shareholder can also approach the court to start derivative action (see Question 16).

 
46. What are the limitations on owning reciprocal share interests in companies?

A subsidiary is prohibited from holding shares in its holding company. However, the Companies Act 2013 has laid down the following exceptions to this general rule, where the subsidiary holds shares in its holding company:

  • As a legal representative of a deceased member of the holding company.

  • As a trustee.

  • Before it became a subsidiary company of the holding company.

Other than in the case of subsidiary-holding relationship, there are no restrictions on owning reciprocal share interest in India.

 

Online resources

The Ministry of Corporate Affairs

W www.mca.gov.in/

Description. Contains relevant statutes and rules, regulations, and notifications pertaining to the Companies Act and related matters. The website is regularly updated.

The Reserve Bank of India

W www.rbi.org.in/

Description. Contains relevant statutes and rules, regulations, and notifications relating to, amongst others, exchange control laws, banking law, and related matters. The website is regularly updated.

The Securities and Exchange Board of India

W www.sebi.gov.in/sebiweb/

Description. Contains relevant statutes and rules, regulations, and notifications relating to securities law and related matters. The website is regularly updated.

The Department of Industrial Policy and Promotion

W http://dipp.nic.in/English/default.aspx

Description. Contains relevant statutes and rules, regulations, and notifications relating to, amongst others, exchange control laws, and related matters. The website is regularly updated.

The Directorate of Printing

W www.egazette.nic.in/default.aspx?AcceptsCookies=yes

Description. Lists Gazetted notifications. The website is regularly updated.



Contributor profiles

Sakate Khaitan, Partner

Khaitan Legal Associates

T +91 22 614 00000
F +91 22 614 00099
E sakate.khaitan@khaitanegal.com
W www.khaitanlegal.com

Professional qualifications. India, Advocate; England & Wales, Solicitor (non-practising)

Areas of practice. Corporate law; insurance law.

Professional associations/memberships. Member of the Bar Council of West Bengal; Member of the Law Society of England & Wales; Co-founded the India Business Forum at London Business School (a platform created to build awareness of, facilitate discussions on and encourage cross border investment from and to India).

Publications

  • Real Estate Finance: Law, Regulation and Practice (LexisNexis Butterworths, 2008).
  • International Computer and Internet Contracts & Law (Thompson Sweet & Maxwell).
  • Data Protection and Law, India Business Law Journal.
  • Managing Partner, Mondaq (voted most popular article in October 2007).
  • Outsourcing to India: The Offshore Advantage.
  • India chapter of Getting the Deal Through publication for Insurance & Reinsurance, Restructuring & Insolvency and Securities Finance.

Languages. English, Hindi, Bengali

Recent transactions

  • Restructuring of debts of a public limited company in India. Scope of work involved advising on de-listing of some of the group entities, advising and executing the divestment of the group's investments in listed companies, advising on the scheme of arrangement with its creditors through a court approved process, advising on funding received by the group through various NBFC's. The restructuring also involved the first ever landmark Scheme of Arrangement in India to include both secured and unsecured creditors.
  • Advised one of the world's leading investment banks in exit from its JV through sale of shares to its Indian partners.
  • Advised a client on their shareholders agreement and acquisition documentation in regards to its investment in an infotech company.

Sangeeta Jhunjhunwala, Partner

Khaitan Legal Associates

T +91 22 614 00000
F +91 22 614 00099
E sangeetaa.jhunjhunwala@khaitanlegal.com
W www.khaitanlegal.com

Professional qualifications. India, Advocate

Professional associations/memberships. Member of the Bar Council of Maharashtra & Goa, Member of the Institute of Company Secretaries in India.

Areas of practice. Corporate law.

Languages. English, Hindi

Recent transactions

  • Restructuring of debts of a public limited company in India. Scope of work involved advising on de-listing of some of the group entities, advising and executing the divestment of the group's investments in listed companies, advising on the scheme of arrangement with its creditors through a court approved process, advising on funding received by the group through various NBFC's. The restructuring also involved the first ever landmark Scheme of Arrangement in India to include both secured and unsecured creditors.
  • Advised one of the world's leading investment banks in exit from its JV through sale of shares to its Indian partners.
  • Advised a client on their shareholders agreement and acquisition documentation in regards to its investment in an infotech company.

Varsha Jalan, Associate

Khaitan Legal Associates

T +91 22 614 00000
F +91 22 614 00099
E varsha.jalan@khaitanlegal.com
W www.khaitanlegal.com

Professional qualifications. India, Advocate

Professional associations/ memberships. Member of the Bar Council of Maharashtra & Goa.

Areas of practice. Corporate Law

Languages. English, Hindi.

Recent transactions

  • Restructuring of debts of a public limited company in India. Scope of work involved advising on de-listing of some of the group entities, advising and executing the divestment of the group's investments in listed companies, advising on the scheme of arrangement with its creditors through a court approved process, advising on funding received by the group through various NBFC's. The restructuring also involved the first ever landmark Scheme of Arrangement in India to include both secured and unsecured creditors.
  • Advised one of the world's leading investment banks in exit from its JV through sale of shares to its Indian partners.
  • Advised a client on their shareholders agreement and acquisition documentation in regards to its investment in an infotech company.

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