Among the current wave of shareholder activism in Indian companies is the effort by Invesco, an investor in Zee Entertainment Enterprises Limited, to replace members of the board of directors of Zee, including to remove the company’s managing director and CEO. In September, Invesco, which holds 17.88% of Zee’s equity shares, requisitioned the board to call for an extraordinary general meeting (EGM) of the company for this purpose. Invesco thereafter initiated proceedings under sections 98(1) and 100 of the Companies Act, 2013 before the National Company Law Tribunal (NCLT), seeking an order to call and hold an EGM of Zee. In the meanwhile, Zee approached the Bombay High Court with a civil suit, seeking an injunction against the requisitioning and holding of the EGM on the ground that the resolutions proposed by Invesco are illegal and ineffective. After hearing the parties, a single judge of the Bombay High Court yesterday granted such an injunction in favour of Zee. The order is accessible here.
The Court’s Reasoning
The principal question outlined by the Court is whether the resolutions proposed by Invesco are valid, or whether they are tainted with illegality. The resolutions contain two broad proposals. The first is to appoint six independent directors specifically named by Invesco in its requisition. This would be in addition to the existing board containing seven directors. The second is to remove Mr. Punit Goenka, the managing director and CEO of Zee, who is currently the only executive director on the board. To this, the main objections raised by Zee were that the proposed resolutions were in conflict with various other provisions of the law, as follows:
- They contravene regulation 17 of the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 (“SEBI LODR Regulations”), which require that the company have an optimum number of executive and non-executive directors, and also that all appointments of directors need to be processed by the nomination and remuneration committee.
- They violate section 203 of the Companies Act, which requires that every company have a managing director, chief executive officer or manager, which would be impinged upon by the removal of Mr. Goenka from his position;
- They are not in compliance with the guidelines of the Ministry of Information and Broadcasting (MIB), which require that changes to the board be preceded by its approval;
- The appointment of directors would breach the cap on the number of board members stipulated in the company’s articles; and
- They violate other laws such as the SEBI Takeover Regulations and the Competition Act.
The Bombay High Court agreed with Zee on all the above counts. It rationalized its stance by stating that if the board itself is unable to call for a meeting to pass such resolutions, the shareholders would not have “some superior right” to propose them, such that they “stand on a highest pedestal” than the board-proposed ones.
Ultimately, the legal question boiled down to an issue of taxonomy in section 100(4) of the Companies Act, which states that if the board does not call an EGM within the specified period from the receipt of a valid requisition, the shareholders themselves may proceed to call for such a meeting. The meaning of a “valid” requisition became the legal bone of contention. Referring to both Indian and comparative jurisprudence, the Court concluded that the “question is not of interpretation of the word ‘valid’ in Section 100 at all, but whether what is sought to be done is plainly an illegality” [emphasis added]. It then went on to hold that the proposed resolutions were illegal and represented matters that could not be implemented.
Analysis of the Order
There is no doubt that the Bombay High Court’s order represents a setback to shareholder activism in the Indian context. While conventional understanding suggests that the right of substantial shareholders (holding more than 10% of the equity shares) would be able to activate the EGM as an important corporate governance machinery that gives a chance to shareholders to exercise their democratic rights of voice and vote, the Court’s rather restrictive interpretation of section 100 curtails shareholder rights substantially. More specifically, the decision gives rise to a number of questions at a conceptual level.
Illegality vs. Conditionality
At the outset, it is unclear whether the non-compliance with various provisions of law listed earlier would amount to illegality or whether they are merely conditions that need to be satisfied. Consider the approval of the MIB. Merely because the appointment of a director requires the approval of the MIB, the passage of a resolution by the shareholders for the appointment of a director is not illegal when the effectiveness of the resolution is itself conditional upon such approval. It might be that the MIB may not even entertain an application unless shareholders have approved the candidature of a director for appointment. This would be a common scenario in regulated companies where board changes require regulatory approval. The import of the Zee-Invesco order is that, in all such cases, shareholders are deprived of their right to requisition an EGM to initiate board changes.
Polarization vs. Harmonization
The Court rests its conclusion on the ground that the proposal by investors to appoint directors would be in violation of SEBI’s securities law regime for listed companies. In particular, reference has been made to regulation 17 of the SEBI LODR Regulations, which requires appointments to go through a nomination and remuneration committee. Evidently, the SEBI LODR Regulations implicitly envisage situations where director appointments are initiated by the board of directors, and not scenarios such as the present one that involves activist investors. By adopting a narrow interpretation of the requisitioning requirements, the Court has created a polarized situation between the Companies Act and the SEBI LODR Regulations. Perhaps a more desirable alternative would have been to engage in an exercise of harmonization.
Legal Technicality vs. Corporate Reality
Finally, the Court explicitly refused to be drawn into the factual disputes and tensions between the parties, and decided instead based on the pure technicalities of the law. While that is understandable at a doctrinal level, the outcome ignores the realities of corporate governance. Such an interpretation enables an entrenched board of directors to ward off activist shareholders even where the changes proposed may be for the benefit of the company and the shareholders as a whole. For instance, this very case involves the board and an erstwhile promoter (holding 3.99% of the company’s equity shareholders) on the one side, and investors representing 17.88% shares on the other. The ruling has the effect of entrenching the incumbents even further, and minimising the effects of investor oversight and monitoring.
The Court also brushed aside the arguments of Invesco that the High Court does not have jurisdiction on the relevant matters involved, since the same is vested with the NCLT. Given the significance of the legal issues and the commercial stakes involved, the matter is bound to go on appeal.