ORDER
K.K. Balu, Member
1. The petitioners holding 97.70 per cent of the paid-up capital of M/s Mainstay Teleservices Private Limited (“the Company”) have filed this petition under Section 398 of the Companies Act, 1956 (“the Act”) alleging acts of mismanagement in the affairs of the Company.
2. The main alleged acts of mismanagement relate to the illegal acts of the second respondent in interfering with the affairs of the Company; disrupting its day-to-day affairs under the lawful management of the second petitioner and respondents 3 to 6, being directors; creating a parallel Board of Directors by unlawful induction of the seventh respondent as a director, forcibly entering into the business premises of the Company and intimidating the staff and customers and other persons dealing with the Company, thereby bringing about a material change in the management and control of the Company causing prejudice to the interests of the Company and its shareholders. With a view to bring an end to these illegalities, the petitioners have sought the following reliefs:
(i) to declare that the second respondent has ceased to be the Managing Director of the Company as and from 02.03.2002, and that all the actions taken in his capacity as the Managing Director are not valid and binding upon the Company;
(ii) to direct the second respondent to transfer 100 equity shares of Rs. 10/- each of the Company held by him in favour of the first petitioner;
(iii) to direct the second respondent to make good the losses suffered by the Company due to his illegal acts;
(iv) to declare that the seventh respondent has never been a director of the Company;
(v) to declare that all the resolutions passed by the second respondent along with the seventh respondent are invalid and not binding on the Company;
(vi) to declare that the second petitioner, respondents 2, 3 to 6 continue to be directors of the Company; and
(vii) to pass necessary orders to ensure that the management and control of the Company are vested with the first petitioner.
3. Shri S.S. Naganand, Advocate for the petitioners, while initiating his arguments traced the pre-incorporation history of the Company by stating that the second petitioner and the second respondent had approached M/s Tecapet Limited (“TCL”), a company having its registered office at UK, a foreign investor for projects in India, with a proposal to set up and operate Call Centers at Bangalore, resulting in execution of a Memorandum of Understanding dated 09.06.2000 (“the MOU”) between M/s Mainstay Teleconsultancy Private Limited (“MPL”) represented by the second respondent as its Managing Director and the second petitioner on one hand and TCL, represented by third respondent on the other hand. The MOU is a private agreement between MPL and TCL. The Company and respondents 3 to 6 and second petitioner are not parties. The salient features of the Memorandum of Understanding are: –
(i) The Company was to be established and incorporated within 14 working days from the date of the MOU.
(ii) The Company would consist of seven promoter directors, out of whom three to be nominated by MPL and the remaining four directors by TCL.
(iii) During the first phase of the project, TCL or its nominees would infuse funds to the tune of 36,00,000 INR within 45 working days from the date of incorporation of the Company.
(iv) The directors of MPL would utilize the funds for the specified purposes within four months from the date of incorporation of the Company.
(v) TCL would infuse further funds towards the second phase of implementation of the project.
(vi) The second petitioner and the second respondent would continue as promoter directors for a minimum period of five years.
(vii) The management of the affairs of the Company would vest with the promoter directors of MPL.
(viii) The broad understanding reached between the parties under the MOU would be reduced to a formal and legally binding contract. If signing of the formal contract becomes impossible or frustrated, the nominee of MPL would refund to TCL, the balance of amounts infused by TCL as contemplated under Clause 2.1 of the MOU.
(ix) Any dispute differences or claims arising in respect of any of the terms and conditions of the MOU must be resolved by way of arbitration in accordance with the Arbitration and Conciliation Act, 1996.
With the above understanding between the parties, the Company was incorporated in June 2000 as a private limited company with the petitioners as the shareholders together holding 8,600 equity shares of Rs. 10/- each and respondents 2 & 3 holding each 100 equity shares of Rs. 10/-. The second petitioner and respondents 2 & 3 are the subscribers to the Memorandum and Articles of Association of the Company. However, the MOU was not adopted as part of the Articles of Association of the Company. As per the Articles, the second respondent who became the Managing Director, continued upto 02.03.2002 and the second petitioner the technical director of the Company. At present, the third respondent is the Managing Director of the Company. The respondents 4, 5 & 6 are directors of the Company. The first petitioner being a nominee of TCL has infused funds to the tune of Rs. 5.29 crores (at the time of filing petition) and at present the same exceeds Rs. 7 crores, whereas the stake of the second respondent is only of Rs. 1,000/-. The first petitioner has invested huge amounts in the Company on the assurance of the second respondent that he would devote his full time and attention towards the affairs of the Company and development and promotion of its business activities. However, the second respondent instead of attending to the affairs of the Company started devoting his time towards the affairs of the MPL, which is engaged in similar business in competition to the business of the Company. Thus, the second respondent was acting detrimental to the interest of the Company, whereby the Company was suffering huge operative costs besides loss of business opportunities. In these circumstances, the Board of Directors of the Company, at its meeting held on 02.03.2002, resolved to divest the second respondent of his powers and duties and functions as the Managing Director of the Company, with effect from 02.03.2002 (Page 79 of the petition) and further appointed the third respondent as the Managing Director. The Board of Directors by means of a circular resolution confirmed on 21.03.2002 the resolution passed on 02.03.2002 divesting the second respondent of his powers as Managing Director and accordingly intimated the Registrar of Companies by filing form-32 (Page 91 of petition). Nevertheless the second respondent after his removal along with his henchmen unlawfully entered the Company’s premises on 17.03.2002 and removed the original share certificates book and certain other records, upon which the third respondent was constrained to lodge a police complaint against the second respondent. Thereafter, the second respondent by a communication dated 16.03.2002 terminated the MOU and further claimed that the nominees of TCL on the Board of Directors of the Company have ceased to be its nominees and sought transfer of the shares of the Company allotted in favour of the nominees of the TCL. Shri Naganand pointed out that the second respondent got issued the communication terminating the MOU on the old letterhead of the company containing the old office address. The second respondent by virtue of his continued illegal actions has been trying to bring about material change in the management and control of the Company by inducting the seventh respondent on the Board of the Company, which resulted in the affairs of the company being conducted in a manner prejudicial to the interests of the company and its shareholders attracting the provisions of Section 398(1)(b). The interim order of the Bench passed on 27.03.2002 & 04.04.2002 enabled the management of the Company to carry on its business without interference of the second respondent and further the Company could reduce substantially the operating losses. During the pendency of the company petition an extraordinary general meeting was hold on 20.04.2002 and necessary resolution was passed under Section 284 removing the second respondent from the office of director. The appropriate form-32 was also filed with the Registrar of Companies. In the meanwhile, the Company had filed a civil suit in OS No. 1981 of 2002 before the City Civil Court, Bangalore for an order of permanent injunction restraining the second respondent from acting as the Managing Director of the Company and from interfering with the day-to-day affairs of the Company. The said suit has now been dismissed as withdrawn. There is, therefore, no impediment for the petitioners, being shareholders, to claim appropriate reliefs from the CLB, for the acts of mismanagement in the affairs of the Company. The first petitioner infused funds even upon the failure of the second respondent, in fulfillment of his obligations under the MOU, on his assurance that he would comply with the terms as agreed. Therefore, the petitioners are entitled for the entire amount of investments made by them and not in terms of Clause 2.1 of the MOU. Shri Naganand further pointed out that in spite of the interim orders dated 27.03.2002 the second respondent has sent communication purporting to act for and, on behalf of the Company with the sole intention of interfering with the normal functioning of the Company. The second respondent has also set up a website under the name and style of Mainstay Group with oblique intentions so as to make the public believe that the Company is part of the said Mainstay group. As the MOU has been terminated by the second respondent, it is not in force as on date. The MOU has neither been adopted by the Company nor are the terms incorporated in the Memorandum of Association and Articles of Association of the Company. Therefore the terms of MOU cannot be enforced against the Company. The second respondent has filed a civil suit in OS No. 16009/2002 before the City Civil Court of Bangalore seeking various reliefs so as to frustrate the interim orders granted by the CLB. The suit has since been withdrawn. The reliefs sought in the civil suit cannot be available to the second respondent. Though the MOU provides for resolving the disputes by way of arbitration, yet at this stage the second respondent is barred from invoking arbitration clause in view of the fact that the second respondent entered appearance and made submissions on merits of the case and participated in the proceedings on merits without moving application under Section 8 of the Arbitration and Conciliation Act, 19%. Therefore, the parties cannot be referred for arbitration at this stage. Once the MOU is terminated and the nominees of both the parties on the Board ceases to be the directors, the petitioners holding 97.7 per cent of the paid-up share capital of the Company are entitled for the reliefs claimed in the petition.
4. Shri A. Edwin Prabakar, Counsel appearing for the second respondent at the first instance has raised the following preliminary objections: –
There are no pleadings to indicate that the requirements of Section 398(a) are met by the petitioners. The petitioners cannot claim any relief by virtue of Section 398(b), especially when the second respondent does not intend to bring about material change in the management and control of the Company, which may result in the affair of the Company being conducted in a manner prejudicial to the interests of the Company and its shareholders.
The dispute arises out of the termination of the MOU, which is required to be remedied in terms of Clause 9 of the MOU. Accordingly, the parties are to be referred for arbitration in accordance with the Arbitration and Conciliation Act, 1996.
The Company has filed a civil suit prior to the Company Petition in OS No. 1981/2002 before the City Civil Court, Bangalore against the second respondent seeking reliefs similar to the reliefs made in the present proceedings, which was subsequently withdrawn by the Company on 12.04.2002 without liberty. The said suit having been withdrawn and the present Company Petition filed subsequent to filing of the suit is not maintainable and liable to be dismissed.
Shri Edwin Prabakar, while arguing the Company Petition on merits has pointed out that the disputes between the parties have arisen on account of the non-fulfillment of the requirements of the MOU dated 09.06.2000. By virtue of Clause 2 of the MOU, TCL ought to have infused in first phase funds to the tune of Rs. 36,00,000 within 45 days from the date of incorporation of the Company, which was not complied within the stipulated period. There was further delay on the part of TCL in funding the project in the second phase as projected in the project report. The second respondent was carrying out his obligations as contemplated in the MOU and in fact he was instrumental in transferring some of the clients carrying on business with MPL to the Company’s fold. The second respondent never acted in a manner detrimental to the interests of the Company. The petitioners have not produced any document to show that the second respondent was devoting his time and attention towards the affairs of MPL or the same had any adverse effect on the interest of the Company. The delay in implementation of the project was due on the part of the nominees of TCL to bring in funds on time. Shri Edwin Prabakar pointed out that Clause 8 of the MOU provides that the broad understanding reached between the parties should be reduced to a formal and legally binding contract. If for any reason, the signing of the formal contract becomes impossible or frustrated, the nominees of MPL are to refund TCL the balance of amounts infused by TCL under Clause 2.1. When the signing of the contract became impossible on account of the differences between the nominees of MPL and TCL, the second respondent, a nominee of MPL was authorised to terminate the MOU by MPL at its Board meeting dated 16.03.2002. Accordingly, the second respondent terminated the MOU by issue of a notice dated 16.03.2002 (Pages 97 to 99 of petition). The petitioners are not entitled for any of the reliefs as the MOU has been validly terminated. By virtue of the termination of MOU, the nominees of TCL on the Board of Directors of the Company ceased to be the directors. In the meanwhile, the petitioners and respondents 3 to 6 created records so as to show that the second respondent has been divested of his powers as the Managing Director of the Company. The minutes of the Board meeting and other records produced by the petitioners in his behalf are fabricated. The alleged removal of the second respondent as Managing Director is invalid and he continues to be the Managing Director. Pursuant to the termination notice, the seventh respondent has been validly appointed as director of the Company. He pointed out that the MOU was ratified and approved by the Company at its first Board meeting and the same had been reflected in the Board Meeting held on 02.03.2002 as borne out by the minutes of the said Board meeting (Page 78 of petition). As no formal agreement between MPL and TCL has been drawn till date as contemplated in Clause 8 of the MOU, the first petitioner is entitled for refund of the balance amount infused by TCL under Clause 2.1 subject to its transferring back the shares held by the nominees of TCL. For these reasons, Shri Edwin Prabakar prayed for dismissal of the company petition.
5. We have considered the pleadings and arguments of learned counsel for the petitioners as well as the second respondent. The issues that arise for our consideration are whether the petitioners have made out a case under Section 398 of the Act and if so, whether they are entitled for the reliefs claimed in the company petition. Before hearing the matter on merits we suggested that the parties could attempt at settling the disputes amicably, in response to which the petitioners expressed their willingness to buy the interest of the second respondent in the Company or they would go out of the Company provided the entire investment of over Rs. 5.25 crores (as at the time of Petition) made by them is refunded together with interest at the rate of 16 per cent per annum, by the second respondent. As the second respondent was agreeable to settle only a sum of Rs. 1.97 crores with interest at six per cent per annum payable over a period of 12 months, the proposal for amicable settlement of the disputes had to be dropped. Now, we shall proceed to consider the preliminary objections raised by the second respondent in regard to referring the parties for arbitration and the parallel proceedings initiated by the Company against the second respondent. It is true that Clause 9 of the MOU provides that any dispute, differences or claims arising in respect of any of the terms and conditions of the MOU, has to be resolved by way of arbitration in accordance with the Arbitration and Conciliation Act, 1996. According to Section 8 of the Arbitration and Conciliation Act, 1996, a judicial authority before which an action is brought in a matter which is covered by an arbitration agreement shall refer the parties to arbitration provided a party applies before such judicial authority not later than submitting his first statement on the substance of the disputes. In the instant matter, the second respondent has participated in the proceedings before the CLB on merits, submitted his counter statement on the substance of the dispute, subjected to the jurisdiction of the CLB and concluded the arguments, without making any application under Section 8 of the Arbitration and Conciliation Act, 1996. The respondent 2 is therefore, now barred from seeking to refer the parties to arbitration. In regard to the parallel proceedings initiated by the Company by filing a civil suit against the second respondent prior to the Company Petition, the said suit is admittedly withdrawn, though without liberty. This action of the Company, in our view, does not disentitle the petitioners, being shareholders of the Company, to exercise their rights, in case of any grievance, under Section 398 of the Act. The rights of the shareholders are independent of the Company, in exercising their rights available under the Statute. Therefore, there is no force in the plea of the second respondent The claim of the second respondent is that the requirements of the provisions of Section 398 have not been fulfilled. It may be observed that in terms of this section, the complaint of the member has to be that the affairs of the Company are being conducted in a manner prejudicial to public interest or in a manner prejudicial to the interests of the Company or a material change has taken place in the management or control of the Company whether by an alteration in its Board of Director or in the ownership of the Company’s shares, or if it has no share capital, in its membership, or in any other manner whatsoever and by reason of such change, it is likely that the affairs of the Company will be conducted in a manner prejudicial to public interest or in a manner prejudicial to the interests of the Company. The grievance of the petitioners is that the second respondent has altered the composition of the Board by induction of the seventh respondent, withdrawal of the second petitioner as well as the nominees of TCL on the Board of Company as borne out by letter dated 16.03.2002 of the second respondent (Annexure M of petition) and such alteration is likely to affect the Company as a whole. The entire basis of this argument is found to be baseless. It appears that in terms of the MOU, MPL had nominated the second petitioner, second respondent and one Shri M.K. Butani as its nominees on the Board of Directors of the Company. It is seen from Annexure R-6 that due to the termination of the MOU, MPL withdrew the second petitioner and Shri M.K. Butani as nominees and nominated the seventh respondent as its nominee on the Board of the Company. There is nothing on record to show that the Board of the Company had formally inducted the seventh respondent as a director and removed the nominees of TCL from the Board. Further, it is seen that the number of directors representing the petitioners is more than represented by MPL. In terms of Section 398 the cause of action to invoke the provisions of section would arise only when there is a material change in the Board of Directors of the Company. The withdrawal of two persons and purported appointment of one by MPL cannot be considered to be material so as to come under the purview of this section. Therefore, there is force in the argument of the Counsel for the second respondent that the petitioner cannot maintain this petition under Section 398. However, it is also on record that the second respondent who controls less than three per cent shares in the Company has been putting obstacles in the control and management of the Company by majority shareholders holding more than 97 per cent shares. Against this background of the holdings of the parties, it will be a futile exercise to go into the disputed claim as to whether the second respondent has been validly removed or not or whether either of the parties to the MOU has committed breach of the terms of the MOU. Assuming for a moment that the MOU has been validly terminated by MPL, the entire Board of Directors would cease to exist, whether nominees of MPL or TCL. It is the prerogative of the shareholders to chose their own directors. Accordingly, the petitioners holding 97.70 per cent of the paid-up capital of the Company are at liberty to chose persons of their choice to be on the Board of the Company. The claim of the second respondent that the petitioners are only investors and the management must be with him cannot hold good in view of termination of the MOU. The second respondent if he chooses to remain to be a member of the Company he can do so, but cannot demand participation in the management of the company as a matter of right. However, in case the second respondent desires to go out of the Company he may exercise his option within 21 days from the receipt of this order, upon which, the petitioners will return the amount of investment made by the second respondent with 15 per cent per annum interest from the date of investment, within 15 days thereafter. In view of our findings, the reliefs claimed by the petitioners are of no significance, especially when the declaration that the second respondent ceased to be Managing Director and that seventh respondent is not a director of the Company etc. do not fall within the realm of Section 398. The interim orders of this Bench stand vacated. The petition stands disposed of in these terms.
No order as to costs.