Majority Rule, Minority Rights and the Principle of Non-interference

Held. The action could not be maintained. The wrong complained of was a wrong done to the company, so the company was the proper plaintiff; and the acts complained of were capable of being confirmed by the majority of the members, so it was for the company in general meeting, and not for the court at the suit of individual members, to decide whether to pursue them.

Why it matters. From those two reasons come the two branches of the rule, and an answer should state them separately.

The proper plaintiff rule. Where a wrong is done to the company, the company alone can sue for it. A member has suffered no legal injury of his own; his shares may be worth less, but that is a reflection of the company's loss, not a separate loss of his.

The internal management rule. Where the act complained of is one the company can ratify by an ordinary majority, the court will not interfere at the instance of a member, because the majority may lawfully decide to let the matter go. This is the principle of non-interference that MU's label names.

The practical consequence is that a minority shareholder complaining of the directors' conduct is met by the answer: the company is the plaintiff, and the company is controlled by the majority who see no reason to sue.

The exceptions

The exceptions are the examinable half of the topic, and they should be given as a list with a sentence of reasoning each, because each rests on a different ground.

Ultra vires or illegal acts

Where the act complained of is ultra vires the company or illegal, any member may sue to restrain it. The reason is decisive: the majority cannot ratify what the company itself has no power to do, so the internal management rule has nothing to work on. A member may accordingly seek an injunction to restrain the company from doing an act outside its memorandum or forbidden by law.

The Act now gives that exception statutory form. Under section 245(1)(a), (b) and (e) a class action may seek to restrain the company from an act ultra vires the memorandum or articles, from a breach of its memorandum or articles, and from an act contrary to this Act or any other law.

Acts requiring a special majority

Where the Act or the articles require a special resolution or other qualified majority, and the thing is purported to be done by a simple majority, a member may sue. The reason again is that ratification is impossible on the terms attempted: what the law requires three fourths to do cannot be validated by one half.

Invasion of a member's individual rights

Where the act complained of infringes a personal right of the member rather than a right of the company, he sues in his own right, and the proper plaintiff rule does not apply at all, because the cause of action is his.

Examples of such personal rights run through this book. The right to have one vote for each equity share under section 47; the right to receive notice of a general meeting and to vote at it; the right to have the vote recorded; the right to a share certificate; the right to have a dividend once declared paid; and the right to inspect the registers the Act says are open to members.

Fraud on the minority

Where those in control have committed a fraud on the minority, and are themselves the wrongdoers so that the company will not sue, a member may bring the action. This is the exception that matters most in practice, because it deals with precisely the case the rule would otherwise leave without a remedy: the wrongdoers control the company and will not permit it to sue itself.

What counts is not fraud in the criminal sense but the use of majority power to appropriate to the majority what belongs to the company or to the members generally: expropriating the company's property or business opportunities, issuing shares to entrench control, or passing a resolution that takes value from the minority to the majority.

Oppression and mismanagement, and other statutory rights

Beyond those, the Act itself confers rights that a member may enforce whatever the majority thinks, and they are dealt with in the next chapters: an application for relief against oppression and mismanagement under section 241, a class action under section 245, a petition for winding up on the just and equitable ground under section 271(e), the right of a qualifying minority to requisition a general meeting under section 100, the right to remove a director by ordinary resolution under section 169, and the protection of dissentients in a scheme of compromise or arrangement under section 230.

A useful way to organise the answer is to say that the first four exceptions were made by the courts, and the Act has since converted their reasoning into standing: sections 241 and 245 give the minority a forum without having to prove that its case fits an exception to a nineteenth century rule.

The statutory qualification: section 244

The Act does not give every member the right to complain of oppression. Section 244(1) requires:

• (a) in a company having a share capital, not less than one hundred members or not less than one-tenth of the total number of its members, whichever is less, or any member or members holding not less than one-tenth of the issued share capital, subject to having paid all calls and other sums due on the shares; and
• (b) in a company not having a share capital, not less than one-fifth of the total number of its members.

The proviso is the safety valve. The Tribunal may waive all or any of those requirements so as to enable the members to apply.

The Explanation: where shares are held by two or more persons jointly, they are counted as one member.

Section 244(2): where members are entitled to apply, any one or more of them, having obtained the written consent of the rest, may apply on behalf and for the benefit of all of them.

Notice how this reproduces the balance of the common law. A threshold keeps out the single disgruntled holder; a waiver keeps the door open where the case deserves it.

A worked example

Mira Road Textiles Limited has eight hundred members. Mr Karnik holds two per cent of the issued share capital and is unhappy with the Board.

A bad bargain. The directors sell a machine to a buyer at a price Mr Karnik thinks too low. He wishes to sue them for the loss.

The rule answers him. The loss, if any, is the company's; the company is the proper plaintiff; and a decision to sell at a low price is a matter of internal management which the members in general meeting may ratify. His suit fails on both branches of Foss v. Harbottle.

An act beyond the memorandum. The company then proposes to lend twenty crore rupees for a purpose plainly outside its objects. Now any member may sue, because the act is ultra vires and the majority cannot ratify it. Mr Karnik may seek an injunction, and, if he can gather the numbers, section 245(1)(a) gives him the same relief before the Tribunal by way of class action.

A resolution passed by the wrong majority. The Board procures a resolution altering the articles by a simple majority. Alteration of articles requires a special resolution under section 14. Mr Karnik may sue, because what the law requires three fourths to do cannot be done by one half, and no ratification by simple majority can cure it.

A personal right. The company refuses to register his vote at the annual general meeting, and later refuses to let him inspect the register of members. Those are his own rights as a member, not the company's rights, so he sues in his own name and the proper plaintiff rule does not arise.

A fraud on the minority. The controlling group causes the company to transfer its most profitable division to a private company owned by them at a nominal price. Ratification by the majority is worthless here, because the majority are the wrongdoers. This is the classic fraud on the minority, and the member may bring the action notwithstanding the rule.

The statutory route. Rather than litigate the exception, Mr Karnik considers section 241. He needs the qualification in section 244: one hundred members, or one-tenth of eight hundred, that is eighty members, whichever is less, so eighty members; or a member holding one-tenth of the issued share capital. He holds two per cent, so he does not qualify on capital, and he must either gather eighty members or ask the Tribunal to waive the requirement under the proviso.

If he gathers them. Any one or more of the eighty, having the written consent of the rest, may apply on behalf and for the benefit of all: section 244(2). And where some of the eighty hold their shares jointly, each joint holding counts as one member.

A class action instead. For the sale of the division at an undervalue he might also consider section 245, which lets members claim damages or compensation from the company or its directors for a fraudulent, unlawful or wrongful act, and which is dealt with in [Class Action].

Distinctions that carry marks

What this does NOT mean

It does not mean a member can never sue. He may where the act is ultra vires or illegal, where a special majority was required, where his personal rights are invaded, or where there is a fraud on the minority.

It does not mean the rule has been abolished by the Act. Sections 241 and 245 give statutory standing in defined situations; they do not make every complaint about management justiciable at the suit of a member.

It does not mean a fall in the value of his shares is a loss the member can sue for. That is a reflection of the company's loss, and the company is the proper plaintiff.

It does not mean any single member may apply under section 241. The thresholds in section 244 apply, subject to the Tribunal's power to waive them.

It does not mean the majority may do as it pleases. Majority power used to appropriate to the majority what belongs to the company or the members generally is a fraud on the minority.

Quick revision

• The rule in Foss v. Harbottle has two branches: the proper plaintiff rule, that a wrong to the company is actionable by the company alone; and the internal management rule, that the court will not interfere where the act is capable of ratification by the majority. Together they are the principle of non-interference.
• Facts: members of a company formed to lay out land as a park sued the directors for misapplying and wasting the company's property. Held: the action could not be maintained, the company being the proper plaintiff and the acts being capable of confirmation by the majority.
• Exception 1, ultra vires or illegal acts: any member may sue, because the majority cannot ratify them; now also section 245(1)(a), (b) and (e).
• Exception 2, acts requiring a special majority: a simple majority cannot do what the Act or articles reserve to a special resolution or other qualified majority.
• Exception 3, invasion of individual membership rights: the member sues in his own right, for example on the one vote per equity share rule in section 47, notice of and voting at meetings, share certificates, payment of a declared dividend, and inspection of registers.
• Exception 4, fraud on the minority: where those in control are the wrongdoers, the member may sue, because ratification by the majority would deny any remedy; it means the use of majority power to appropriate what belongs to the company or the members generally, not fraud in the criminal sense.
• Statutory rights: section 241 oppression and mismanagement; section 245 class action; section 271(e) just and equitable winding up; section 100 requisition of a meeting; section 169 removal of a director; section 230 protection in a compromise or arrangement.
• Section 244(1): to apply under section 241 a member needs, with share capital, one hundred members or one-tenth of the members, whichever is less, or one-tenth of the issued share capital, all calls paid; without share capital, one-fifth of the members. The Tribunal may waive these. Joint holders count as one member, and 244(2) lets one or more apply with the written consent of the rest, on behalf of all.

Test yourself

1. State the rule in Foss v. Harbottle. Where a wrong is alleged to have been done to a company, the company is the proper plaintiff and an individual member cannot sue in respect of it; and where the act complained of is one the company can ratify by a majority of its members, the court will not interfere at the suit of a member in the internal management of the company.

2. Why did the action fail in that case? Because the wrong complained of, the misapplication and wasting of the company's property, was a wrong to the company, which alone could sue for it; and because the acts were capable of being confirmed by the majority of the members, so it was for the company in general meeting to decide whether to pursue them.

3. Name the four judicially developed exceptions. Acts which are ultra vires the company or illegal; acts requiring a special majority which are purported to be done by a simple majority; invasion of the individual or personal rights of a member; and a fraud on the minority where the wrongdoers are in control of the company.

4. Why can an ultra vires act be restrained at the suit of a single member? Because the majority cannot ratify what the company itself has no power to do, so the internal management rule, which rests on the possibility of ratification, has no application.

5. Who may apply to the Tribunal under section 241? In a company having a share capital, not less than one hundred members or one-tenth of the total number of members, whichever is less, or any member or members holding not less than one-tenth of the issued share capital, having paid all calls and other sums due; in a company without share capital, not less than one-fifth of the total number of members. The Tribunal may waive all or any of these requirements: proviso to section 244(1).

6. How many members does a company of eight hundred members need to qualify? One hundred, or one-tenth of eight hundred, that is eighty, whichever is less, so eighty members; alternatively a member or members holding one-tenth of the issued share capital. Joint holders of a share count as one member.