What is the Agency Problem?
In corporate law, the agency problem between majority shareholders and minority shareholders exist due to the concentration of controlling powers and rights with the majority shareholders which may result in a conflict of interest. The separation of ownership and control over corporate activities in a company may produce an agency problem. Majority shareholders’ control rights can be utilised to sway management choices about the firm’s policy. Minority shareholders can be commandeered by asset redistribution using those control powers. When control rights diverge significantly from cash flow rights, there is more agency conflict between majority and minority shareholders.
Why Does An Agency Problem Arise?
An agency problem may arise because of the distribution of power, and the authority to make decisions that come along with it. For example, X holds 25% of the shares of a company, and A, B, C, D and E together hold only 1% shares of the company, the majority shareholder shall have a greater say in the decision making and will be in an influential position to sway the decisions of the Board. A conflict in the decision making shall majorly arise when the question pertains to dividends. In this example, X might be more interested in the long-term goals of the company which would require creation of reserves or investment in new projects, which in turn would decrease the dividends of the shareholders for the time being. Such interest for long term goals is also because there are incentives for the executives to work for the growth of the company. Other such situations may arise when the majority shareholders act in a manner which is in their own interests.
How Does the Companies Act, 2013 narrows the gap between Majority and Minority Shareholders?
Chapter XVI of the Companies Act, 2013 provides for the prevention of oppression and mismanagement within the company. There are majorly two provisions that paves the way towards relief. Section 241 of the Act bestows power on the NCLT to grant relief to shareholders if the affairs of the company are being run in a manner prejudicial or oppressive to them. The provision also extends to grant relief to shareholders or a class of shareholders who are affected by a material change which has resultantly caused the operations of the Company being conducted in a manner that is prejudicial to its interests or its members or any class of members. Section 245 of the said Act provides for class action reliefs to the members or depositors of the company. Furthermore, as per Section 246 of the Act, any application under Sections 241 or 245, the provisions from Section 337 to Section 341, which pertain to penalty for fraud by officers, Liability where proper accounts not kept, Liability for fraudulent conduct of business, and Power of Tribunal to assess damages against delinquent directors, etc., shall apply mutatis mutandis. Although the term ‘Oppression’ has not been defined, In the case of Elder v. Elder & Watson, it was observed that if there is oppression, it remains oppression even though the oppression is simply due to the controlling shareholder’s overweening desire for power and control and not with a view to his own pecuniary advantage. The result rather than the motive is the material thing. This observation has been taken into account by Indian courts in several cases. The conduct must be onerous, harsh, and wrongful, and a simple lack of trust between majority and minority shareholders will not suffice unless the lack of trust stems from oppression of a minority by a majority in the management of the company’s affairs, and such oppression must include at least an element of lack of probity or fair dealing with a member in the matter of his proprietary rights as a shareholder.
Apart from these, there are several other provisions that restrict the powers of the Board and majority shareholders in order to ensure that the say of the minority shareholders are taken into account. For example, As per Section 161, the Board of Directors, which is highly influenced by majority shareholders, have the power to appoint Additional Directors, however, such power is limited since such a Director can only be appointed for a period that ends on the next annual general meeting or the last date on which the annual general meeting should have been held, whichever is earlier. This ensures that there is no arbitrary use of power in appointing new Directors without the vote of minority shareholders. Requirement of Quorum in meetings under Sections 103 and 174 is also a way to ensure that minority say is taken into account.
Furthermore, the Courts have also stepped in to shape the corporate law for protection of minority shareholders. In the case of Yogeswari Kumari v Lake Shore Palace Hotels P. Ltd., it was observed that if the issuance of rights shares is malafide and tainted with the object to put burden upon the minority resulting into unnecessary burden upon the minority and on other equitable grounds, then the rights issue in the facts of the case amounts to an act of oppression against the minority and court may pass an appropriate equitable order to do justice.
Are the Present Protections Sufficient?
The present protections may provide a measure to seek reliefs, however, the bar set to claim such reliefs are quite high. A very prominent and recent example of the same is the decision given in the case of Tata Consultancy Services Ltd. v. Cyrus Investments (P) Ltd., in which the Supreme Court upheld the decision of the Tribunal in favour of TCS. For a shareholder to gain relief under the Act, they do not just have to show that the conduct of the company is oppressive and prejudicial to them, rather they have to prove that the said oppression and prejudice is so grave that it is just and equitable to wind up a company. Clearly, removal of a Director would not amount to the same as per this Judgment as it may not be a ground for winding up a company. Measures such as adding more accountability and fiduciary responsibility on controlling shareholders, increasing the limit of minimum public shareholding, and efficient and speedy grievance redressal mechanism can go a long way in narrowing down the agency problems.