Rights of third parties in a petition under section 397/398 of the Companies Act, 1956?

I had to concentrate on an interesting legal issue in the recent past on section 397/398 of the Companies Act, 1956. Though, section 397/398 of the Companies Act, 1956 is basically meant to protect the rights of the minority shareholders in the Company against the oppression and mismanagement by the majority, the rights of the third parties can not be ignored. The Company Law Board can pass any order under section 397/398 of the Companies Act, 1956 and under section 402 of the Act in order to put an end to the matters complained of or in order to regulate the affairs of the Company. Than oppression through further issue of share capital intended to reduce the shareholding of one group, the acts of mismanagement are seriously agitated by the shareholders before the Company Law Board in a petition under section 397/398 of the Companies Act, 1956. In the course of dealing with various issues between or among the shareholders or in the Company, the Company Law Board may have to deal with many issues and the order of the Board, may at times, affect the rights of the third parties. There can be an agreement between the Company and the outsider and the validity of such an agreement may be questioned in a petition under section 397/398 of the Companies Act, 1956. The workmen can be heard by the Board at times in a petition under section 397/398 of the Companies Act, 1956. Based on the principles of natural justice and in view of the complications, section 405 of the Companies Act, 1956 provides a right to any person to make an application to the Board asking for permission to state his case in a petition under section 397/398 of the Companies Act, 1956. Again, section 402 (e) and (f) dealing with the issue of termination, setting-aside and modification of agreements between the Company and the third parties emphasize the principles of natural justice. Thus, though section 397/398 of the Companies Act, 1956 is seen as a dispute among shareholders basically, the role of the third parties and the extent thereon is important and complicated issue to deal with.

If we consider the precedents so far, I do strongly feel that the role of third parties in a petition under section 397/398 of the Companies Act, 1956 comes into play only based on the principles of nature justice that no one should be affected unheard. The right of the third party to participate in a proceeding under section 397/398 of the Companies Act, 1956 can never be construed that a third party has a right to seek a relief of his own and get his issues settled. A third party can express his views or stand on the issue connected in a proceeding under section 397/398 of the Companies Act, 1956 and he may at times; get benefited eventually when the Company Law Board passes a final order. Though it is very complicated to list-out the powers of the Company Law Board under section 397/398 of the Companies Act, 1956, it depends upon the facts and circumstances of the case and if there is no specific bar on passing an order, then, the Company Law Board can pass any order in order to put an end to the matters complained of or in order to regulate the affairs of the Company. Dealing with the issue as to whether a third party dues can be settled under section 397/398 of the Companies Act, 1956, the Hon’ble High Court of Madras in T. P. Sokkalal Ram Sait Factory Private Limited, In Re Prabhakaran and Others Vs. T. P. S. H. Selva Saroja and Others (1978 (113) ITR 625, 1978 (48) CC 503, 1988 (113) ITR 625), was pleased to observe as follows:

“Section 397 of the Companies Act, 1956, enables an application being made by a member of a company, if the affairs of the company were being conducted in a manner oppressive to such member or members. Section 398 of the Act provides for an application being made to the court if any member of the company complains of mismanagement of the affairs of a company. The power of the court to pass orders on such application is indicated in section 402 of the Act. Clauses (a) to (f) of the said provision do not apply here on their language. This position was not disputed. Reliance is placed on the opening words f the provision, viz., "without prejudice to the generality of the powers of the court" and also on clause (g) of the said provision which contemplates the court providing for any other matter in its order for which it was just and equitable that provision should be made. The clauses (a) to (f) of section 402 of the Act, if analysed, would show that the directions are with reference to the administration and management of the affairs of the company. It does not contemplate directions regarding debts due to third parties. If the applicant is right, then the company court would be the forum for settling disputes about ordinary debts which would ordinarily have to be done in civil suits on payment of appropriate court fees. This is not the object of the provision. Clause (g) of the said provision is only a residuary one and has to be construed in the light of the object with which section 402 has been enacted, viz., to give directions regarding the internal management of the company. Section 402 of the Act, cannot, in my opinion, be utilised for the purpose of agitating the disputes about liabilities or for staying the tax liability of the company. If there are any objections to the tax as levied, then such an objection has to be got raised by recourse to the provisions of the Income-tax Act. Section 397 and 398 of the Companies Act are for relieving the shareholder against the oppression or mismanagement of the arrears of the company. The liability to tax levied on the company is out-side the scope of these provisions. Section 402 of the Act cannot, therefore, be invoked or applied in such a case.”

On another interesting issue of impleadment of parties under section 405 and section 402 and the object behind the impleadment of third parties or the rights of third parties to be heard, in a recent judgment, the Hon’ble High Court of Bombay, in Company Appeal No.51 of 2009 between Ravi Kiran Agarwal & Others Vs. Moolchand Shah S/o Mr. (Late) Sampat Raj & Others, was pleased to observe as follows:

“13. Section 405 of the Act, deals with the power of the Company Law Board to implead additional Respondents to an application under Sections 397 or 398. Under section 405, if the Managing Director or any Director or a Manager of a company or any other person, has not been impleaded and such person applies to be added as a Respondent, the Company Law Board is empowered to pass an order added him as Respondent, if sufficient cause for doing so is established to the satisfaction of the Board. The Company Law Board in the present case inferred that the power to add or implead a party as a Respondent to an Application under Sections 397 or 398 is to add only those parties who are referred to in clause (d) and (e) of section 402. The Board applied the interpretative tool of ejusdem generis. The principle of ejusdem generis would have no application, where the Court is required to construe, two separate statutory provisions which operate in different fields. Section 402 illustrates the powers which can be exercised by the Company Law Board on an Application under Sections 397 and 398. Section 402 is not an exhaustive catalogue of the powers of the Board. Section 405 deals with the addition of parties. There is no reason on justification for confining the words “any other person” under Section 405 to those categories of persons who are elucidated in clause (e) of the Section 402. As a matter of first principle, it would be impermissible to do so. On an Application under Sections 397 and 398 the Board has, as already noted earlier, wide powers to pass orders as it thinks fit to bring to an end the matters of complained of and, under section 398(2), to even prevent the matters complained of or apprehended. The exercise of those wide powers, may in a given situation affect the interest of third parties. To hold that a third party liable to be affected by an order under section 397 and 398, would not be entitled to be heard on the ground that, it does not fall within the description of ‘a person’ in clause (e) of section 402 who has an agreement with the company would be fundamentally violative of the basic postulate of natural justice. Nothing, except a clear statutory provision to that effect should lead the court to adopt such a construction. If Parliament intended to contemplate the addition of only those persons who had Agreements with the Company, there was nothing to prevent the addition of those words. The words “any other person” in Section 405 are not restricted by a stipulation that such person must have an Agreement with the Company. Hence, the words “any other person” must be given their plain and natural meaning so as to include any person whose interest would be affected by an order that is sought in the application under section 397 and 398. The Board misapplied the principle of ejusdem generis. The principle of ejusdem generis is that when particular words pertaining to a class category or genus are followed by general words, the general words are construed as limited to things of the same kind as those specified. The rule applies when i) The Statute contends an enumeration of specific words; ii) The subject of enumeration constitutes a class or category; iii) The class or category is not exhausted by the enumeration; iv) General terms follow upon the enumeration; and v) there is no indication of a different legislative intent. [G.P.Singh on the Principles of Statue Interpretation, 9th Edition page 420.] This principle can have no application in construing word “any other person” in section 405 which operates in a field untrammeled by section 402.

14. The Company Law Board has in the present case diluted its finding that the expression “any other person” under section 405 must be construed with reference to section 402(e) by holding that occasions may arise to implead other persons on the facts of each case. The Board noted that shareholders who are not parties may apply on the apprehension that, any relief granted would affect their interest or employees or creditors may also apply on the same ground. The Board held that notwithstanding the ‘strict’ provisions of section 405, it may have to use it discretion in deciding on the basis of the facts of each case, where the application for impleadment has shown sufficient cause to be impleaded as a Respondent. The residual discretion which the Board assumes to it, would itself indicate that the provisions of Section 405 cannot be construed in the manner in which they were construed in the earlier part of the judgment. The interpretation that has been placed by the Board on the provisions of section 405 is erroneous and has to be disapproved. The power of the Board under section 405 to implead any other person, is a wide power which is conditioned, only by the satisfaction of the Board, that there is sufficient cause for doing so. Where the relief that is sought in the application under Sections 397 or 398 is liable to affect the interest of a third party, an order of impleadment would be warranted. The impleadment of the party may be considered necessary, or in the facts of a case, proper in order to enable the Board to render a full, final and complete adjudication of the dispute. By its very nature, the power cannot be restricted to predefined categories and must be exercised in order to advance the underlying purpose and object of the provisions of Sections 397 and 398.”

Note: the views expressed are my personal, a view point and I am aware of the complications under section 397/398.