Brief Facts of the Case:
- Ambika Food Products Private Limited (“Respondent Company”) is a closely held private limited company. The shareholders of the Respondent Company were divided into 3 groups, viz the H.M. Patel Group (holding 30.8% of the paid-up share capital of the Respondent Company); the Sheth Group (holding 45% of the paid-up share capital of the Respondent Company); and V.P. Patel Group (holding 24.2% of the paid-up share capital of the Respondent Company).
- The authorized share capital of the Respondent Company was increased from Rs. 1 Crores to Rs. 2 Crores and an offer for rights issue was approved by the board of directors of the Respondent Company, whereby all the shareholders were given an equal opportunity to apply for shares in proportion to their existing shareholding (i.e., in the ratio of 1:1). As per the resolution passed by the board of directors of the Respondent Company approving the further issue of shares, the shareholders also had the right to apply for and take additional shares which were not subscribed to by other shareholders.
- In an interesting turn of events, (i) the increase in the authorized share capital of the Respondent Company was approved by the shareholders in a general meeting comprising only of members from the H.M. Patel Group (without the presence of any representative from the Sheth Group and the V.P. Patel Group); and (ii) the directors of the Respondent Company representing the H.M. Patel Group passed a resolution in the meeting of the board of directors for taking steps towards allotment of shares.
- In the meeting of the board of directors of the Respondent Company held on February 9, 2010, the board of directors (which only comprised of directors from the H.M. Patel Group) passed a resolution for the allotment of shares to the shareholders as per the applications received from them. It is to be noted here that the directors representing V.P. Patel Group were granted leave of absence in this board meeting, and directors representing Sheth Group had resigned from the board of directors of the Respondent Company prior to this meeting. After the allotment of the additional shares, the shareholding pattern of the Respondent Company stood altered, with the H.M. Patel Group’s shareholding being increased to 63.58% (from 30.8%) and the shareholding of the V.P. Patel Group and the Sheth Group being decreased to 12.74% (from 24.2%) and 23.68% (from 45%), respectively.
- Both V.P. Patel Group and the Sheth Group filed petitions before the National Company Law Tribunal, Ahmedabad Bench (“NCLT”), under Section 397 and 398 of the Companies Act, 1956, alleging mismanagement and oppression by the H.M. Patel Group and challenged their decision to increase the authorized share capital of the Respondent Company and allot the shares to H.M. Patel Group in a disproportionate manner. While the increase in the authorized share capital of the Respondent Company was upheld by the NCLT, the NCLT held that the distribution of shares was ‘defective’. Further, the NCLT directed that the allotment of shares be made to all the existing shareholders of the Respondent Company in proportion to their shareholding. The NCLT’s decision was upheld by the National Company Law Appellate Tribunal, New Delhi.
- The issue before the SC was whether the allotment of shares by the directors of the Respondent Company was contrary to the interests of the Respondent Company and resulted in oppression of the shareholders belonging to the Sheth Group and the V.P. Patel Group.
- Vide the judgment dated June 15, 2023 passed by the SC (“SC Judgment”), the SC has held the allotment of shares by the directors of the Respondent Company to the H.M Patel Group, resulting in increase in their shareholding in the Respondent Company from 30.8% to 63.58%, on inter alia the ground that such allotment was the result of the other shareholder groups refusing to apply for additional shares despite being given an opportunity and therefore, such additional issue of shares could not be characterized as oppressive.
- Additionally, the SC held that the purpose of the board of directors of the Respondent Company to increase the capital of the Respondent Company was bona fide and clarified the position in relation to the role of the nominee directors in a private company. The SC has held that “The fact that the Directors may also benefit from a decision taken primarily with the intention to promote the interest of the Company, cannot vitiate the decision. In other words, if in the implementation of the decision taken primarily with a view to safeguard the interest of the Company, the appellants have made a gain, it cannot by itself render the decision vulnerable“. This is contrary to the view taken by the SC in the case of ‘Dale & Carrington Invt. (P) Ltd. and Anr. v. P.K. Prathapan and Ors., wherein the SC had previously held that “…The acts of Directors in a private limited company are required to be tested on a much finer scale in order to rule out any misuse of power for personal gains or ulterior motives. Non-applicability of Section 81 of the Companies Act in case of private limited companies casts a heavier burden on its Directors. Private limited companies are normally closely held i.e. the share capital is held within members of a family or within a close-knit group of friends. This brings in considerations akin to those applied in cases of partnership where the partners owe a duty to act with utmost good faith towards each other. Non-applicability of Section 81 of the Act to private companies does not mean that the Directors have absolute freedom in the matter of management of affairs of the company…“.
- The SC has, however, clarified in the SC Judgment that the facts in the case of Dale & Carrington Invt. (P) Ltd. (supra) are clearly distinguishable, as the said case represented on the facts, where, the efforts were solely directed at consolidating and cornering of power by the person in question which is different from the facts in the present case, as the SC is inclined to think that the shares were offered to the existing shareholders on a fair and equal footing.
- Basis the reading of the SC Judgment, it appears that the primary rationale for upholding the allotment of shares resulting in disproportionate increase in the shareholding of H.M. Patel Group in the Respondent Company is the refusal of the Sheth Group and the V.P. Patel Group to apply for their proportionate shares. The SC has held that “An incidental gain, namely the change in the shareholding pattern is entirely the inevitable result of the refusal of the respondent’s groups to apply. We cannot proceed on the basis that the appellants foresaw and deliberately planned the whole affair. If only the respondents had applied, the situation would not have happened”.
- In our view, while the SC Judgment has strengthened the legal position on powers of the board of directors to allot shares pursuant to a rights issue under Section 62(1)(a) of the Companies Act, 2013, nonetheless the order is very specific to the merits of the case. Therefore, it will be interesting to watch the impact of the SC Judgment on any share allotments in cases of disputed joint ventures or shareholders’ agreements!
 (2005) 1 SCC 212.