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Maintainability Conundrum of Class Action Suits Under Indian Corporate Law

The authors are Vishesh Gupta and Sanskriti Srimali, fifth year students at Institute of Law Nirma University.


Introduction


Class action provides a forum to one or more aggrieved parties to file a suit on behalf of a large group of people with a common grievance against the wrongdoer. This device prevents duplicity of suits and saves the time of the court. In corporate jurisdiction, class action is enshrined in Section 245 of the Companies Act 2013 (hereinafter “CA 2013”). Class action has not been tested in the judiciary as the few class actions that have been filed have been rejected without going into the merits of the case. Although earlier literature on class action has pointed out various interpretation issues regarding Section 245 of CA 2013, maintainability issues related to section 245 of CA 2013 and Rule 85 of NCLT Rules, 2016 have not been highlighted yet. In this article, these issues will be highlighted and analysed to find a solution that promotes shareholder rights and protects the company from frivolous class actions.


Maintainability Under Section 245 of Companies Act, 2013


In a class action suit, the first stage to be cleared by the shareholders or the depositors is to fulfil the numerical threshold under Section 245(3) of CA, 2013. Surprisingly, for companies not having a share capital, eligibility is a minimum of 1/5th of the total number of its members. The eligibility condition for such a company is harsh compared to that of a company having a share capital. For example, if a company has 200 members, the eligibility threshold in case it has no share capital is 40 members (1/5th of 200 members) whereas if it is a company having share capital, it is only 10 members (lower of 100 and 5% of total members). Thus, members of the company limited by shares are on a better footing.


The intention of the legislature to introduce such thresholds was to safeguard the directors and the company from frivolous suits filed by the shareholders. However, an important question that arises is whether mechanical fulfilment of the threshold is sufficient to file a class action. If the answer is in the affirmative, it can lead to misuse of the class action. For instance, a shareholder with malafide intention can file a class action by transferring his share to other like-minded non-shareholders/outsiders to meet the threshold. This is a greater concern in a public company where shares are freely transferable.


This concern was raised by the Company Law Board (CLB) in the case of Jodh Raj Ladha vs Birla Corporation Ltd. In this case, the petitioner held a small percentage of shares of the company which he transferred to other people in order to meet the threshold for filing an oppression and mismanagement suit. The CLB held that the petitioners didn’t have any personal interest because they were only brought to fulfil the threshold. However, the High Court overturned this decision on the ground that maintainability and merits of this case were interlinked and therefore, the suit couldn’t be dismissed on preliminary grounds of the threshold.


In the author’s opinion, the decision of CLB is correct because this can prevent misuse of class action remedies. If not regulated, a frivolous class action can hurt the company and ultimately its shareholder such as resulting in a significant drop in share price. To prevent misuse, section 245(8) of CA 2013 further lays down good faith as a pre-requisite for filing a class action. Lack of good faith entitles the NCLT to dismiss the application and impose costs on the applicants.


Furthermore, the author believes that the law has kept the threshold limit on the lower side (at least for a company with share capital), and if such threshold still cannot be met without artificially clearing the same, it is indicative that class action is not the most desirable option. Decision of the court in a class action is binding on the company and all the members. So, if the class action is filed by people who have no real stake in the company, it can potentially affect the entire company and its members.


Maintainability under NCLT Rules 2016


Rule 85 of NCLT Rules, 2016 provides for various grounds that the NCLT may consider for checking the admissibility of a class action. These are para materia with class action provisions in the USA i.e Rule 23 (a) of Federal Rules of Civil Procedure. Therefore, the interpretation of these grounds has been taken from the US jurisdiction.


The first ground is whether the class has so many members that joining them individually would be impracticable. In the author’s opinion, this ground is redundant in the context of class action u/s 245 of CA 2013. The words ‘so many members’ would always mean a number above the threshold mentioned in Section 245(3) because below it, a class action cannot be filed. Such a ground would be relevant where there is no minimum prescribed threshold for forming a class- for example, representative suits under CPC and class action under Consumer Protection Act, 2019 (CPA) where no threshold is prescribed. In the case of Brigade Enterprises Ltd v. Anil Kumar Virmani, owners of 51 apartments filed a representative action under the CPA. The Supreme Court held that the owner of these 51 apartments constituted only a few consumers and not numerous consumers, which is a pre-requisite to filing a representative suit. In such cases, there exists judicial discretion to decide whether there are ‘so many members’ or not, but not in CA 2013 where a threshold is prescribed.


The second ground is the commonality of question of law or fact among the entire class. This ground is satisfied if the ascertainment of the common issue of the class will solve the issue primary to the validity of each of the claims in one stroke. Further, when considering this ground, the court must determine whether all the members in the class have suffered a similar injury.


The third ground is Typicality. This ground is satisfied when each member's claim arises from the same course of actions and each member submits similar legal arguments to show the defendant's liability. Variance in damages arising from a disparity in injuries among the class doesn’t rule out typicality.


The fourth ground is whether the representative party will fairly and adequately protect the interest of the class. To satisfy this ground, it must be enquired whether (1) the plaintiff’s interests are antagonistic to the interest of other members (2) the representative plaintiff has enough integrity and credibility to diligently undertake its duties to the class, (3) no conflict of interest exist between the representative and other members of the class.



“May” or “Shall” Conundrum


It is important to note that Rule 85 prescribing the 4 additional grounds is not mandatory since the word ‘may’ is used herein. The NCLT has discretion whether to apply these grounds or not. In complete contrast to this, these grounds are pre-requisites for filing a class action in the USA, where the class action application must go through a rigorous analysis which includes adhering to these 4 grounds. Therefore, class actions have been characterised as ‘rare beasts’ in the USA.


In the author’s opinion, the additional grounds should be mandatory as this will lead to proper class formation. This will not be harsh on the shareholders/depositors because, as seen from the interpretation of these grounds above, the grounds are wide in scope so as not to deny shareholders their rights on small technical differences. This approach will ensure that shareholder’s rights are not restricted and that the company and its directors are protected from frivolous litigation.


If not interpreted as mandatory, the 4 grounds may violate the locus standi principle. Taking a hypothetical question, can members not affected by the act of a company or not having similar interests to the other class members file a class action u/s 245 based on just being a member of the company? If the 4 additional grounds are considered discretionary, there is a scope that the answer to this question is in the affirmative. This is because there is no mandatory requirement in law for all the members of the class to have the same interest and the only requirement herein is being a member or depositor of a company. However, this interpretation will be in violation to the well-established rule of locus standi. NLCT in the case of Ramesh B. Desai and Ors. v. Secretary, Sayaji Industries Ltd.[1] held that if the appellant’s rights as a shareholder are not affected by the acts of the company, such appellants have no locus standi. Therefore, the additional grounds should be interpreted as mandatory and not discretionary to ensure proper formation of a class.


Concluding Remarks


Class action u/s 245 was brought to strengthen protection of shareholders from the companies. However, Section 245 and Rule 85 are filled with typographical errors, ambiguous language and unnecessary reproduction of US laws. These difficulties will prove to be a roadblock to effective shareholder protection in India. An important step should therefore be to make the additional grounds under Rule 85 of NCLT Rules, 2016 mandatory in order to strengthen class action remedy under Indian corporate law.






[1] 2021 SCC OnLine NCLT 129

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2 Comments


Wonderful Work Sanskriti and Vishesh

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Arpita Shrimali
Arpita Shrimali
Nov 15, 2022

Very insightful !!!


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