Sections 397 and 398 of the Companies Act, 1956: Oppression, Mismanagement and the Evolution of Indian Corporate Remedies

Sections 397 and 398 of the Companies Act, 1956: Oppression, Mismanagement and the Evolution of Indian Corporate Remedies

1. Introduction

Sections 397 and 398 of the Companies Act, 1956 (hereinafter “the 1956 Act”) constitute the fulcrum of minority‐shareholder protection in India. Section 397 targets oppression, whereas Section 398 addresses mismanagement. Read with the wide remedial powers under Section 402, these provisions allow the Tribunal (formerly the Company Law Board and High Courts) to intervene without resorting to the corporate death sentence of winding-up. Despite their apparent brevity, the two provisions have generated a rich body of jurisprudence defining the contours of fiduciary duty, the proper-purpose doctrine, legitimate expectation and procedural fairness. This article critically analyses the statutory framework and judicial exposition of Sections 397 and 398, drawing upon leading Supreme Court authorities such as Dale & Carrington, Needle Industries, Sangramsinh Gaekwad and V.S. Krishnan, as well as seminal High Court and Tribunal precedents.

2. Statutory Architecture and Historical Context

The provisions were transplanted from Section 210 of the English Companies Act, 1948 and first introduced into Indian law by Section 153C of the Companies Act, 1913. Dissatisfaction with “winding-up or nothing” prompted the 1952 Company Law Committee to recommend a preventive, equity-based remedy.[1] The 1956 Act, as amended in 1963, preserved that philosophy and set twin jurisdictional thresholds:

  • Quantitative locus standi – at least one-tenth of share capital or 100 members (Section 399).
  • Substantive gateway – (i) affairs conducted oppressively/prejudicially, and (ii) winding-up would unfairly prejudice the aggrieved members though otherwise just and equitable (Section 397(2)). Section 398 substitutes the “winding-up” condition with a likelihood of prejudicial conduct.

While the 1956 Act has been replaced by the Companies Act, 2013 (Sections 241–242), the legacy jurisprudence remains authoritative because the successor provisions are materially similar.

3. Conceptual Distinctions: Oppression versus Mismanagement

Judicial pronouncements emphasise that oppression concerns burdensome, harsh or wrongful conduct towards shareholders, whereas mismanagement focuses on detriment to the company as a whole.[2] Nevertheless, the two often overlap, and petitions are routinely framed under both sections.

4. Jurisprudential Evolution

4.1 Proper-Purpose Doctrine and Allotment of Shares

In Dale & Carrington Investments Pvt. Ltd. v. P.K. Prathapan, the Supreme Court invalidated an allotment designed solely to consolidate the managing director’s control, holding that directors “must exercise their powers for the benefit of the company and not for an extraneous purpose.”[3] The Court drew upon English precedents such as Hogg v. Cramphorn and domestic decisions like Tea Brokers, thereby cementing the proper-purpose test within Section 397 jurisprudence. The decision illustrates that even a procedurally flawless board resolution is vitiated if the underlying motive is oppressive.

4.2 Regulatory Compliance versus Oppression: The Needle Industries Paradigm

Needle Industries (India) Ltd. v. Needle Industries Newey (India) Holding Ltd. addressed whether rights issues undertaken to comply with the Foreign Exchange Regulation Act (FERA) could nonetheless be oppressive.[4] Upholding the allotment, the Court balanced statutory compulsion against minority interests, observing that bona fide compliance with external regulation negated any oppressive intent. Importantly, the Court clarified that companies which became “public” under Section 43-A but retained private-company characteristics were exempt from Section 81(1)(c), thus demonstrating the statutory complexity often underlying oppression disputes.

4.3 Fiduciary Duty in Closely-Held Companies

In Sangramsinh P. Gaekwad v. Shantadevi P. Gaekwad, involving a family-run quasi-partnership, the Supreme Court reiterated that directors owe their duty to the company rather than individual shareholders, and that oppression must be pleaded with particularity.[5] The Court sustained most share allotments after finding no mala fides and rejected the notion that mere non-disclosure constitutes oppression. The judgment tempers the expansive language of Section 397 by insisting on fact-specific proof of unfair prejudice.

4.4 Legitimate Expectation, Procedural Fairness and the Threshold of Harshness

V.S. Krishnan v. Westfort Hi-Tech Hospital Ltd. sharpened the distinction between equitable expectations and statutory rights.[6] The appellants claimed a “legitimate expectation” to remain directors; the Court dismissed the claim absent an express contractual promise, underscoring that Sections 397–398 cannot override the rotational retirement mandated by Section 255 of the Act. The decision also confirms that non-receipt of AGM notices must be substantiated; the statutory presumption of service via certified post suffices unless convincingly rebutted.

4.5 Past Versus Continuing Wrongs and Limitation

High Court and CLB decisions hold that the Limitation Act does not strictly bar petitions where the wrongs are “continuing,”[7] yet the requirement of continuity is rigorously policed. In Suhas Chakma the CLB dismissed a petition for failure to show acts continuing up to the date of filing.[8]

4.6 Interface with Arbitration and Other Fora

Attempts to divert oppression petitions to arbitration have largely failed. In O.P. Gupta v. Shiv General Finance (P) Ltd. the Delhi High Court ruled that Sections 397–398 confer exclusive statutory jurisdiction that cannot be contractually ousted.[9] A contrary approach was, however, taken by the CLB in Masusmi Sa Investment LLC v. Keystone Realtors, referring the matter to arbitration pursuant to an express shareholders’ agreement; the Bombay High Court later scrutinised the maintainability of an appeal under Section 10-F, reflecting ongoing tension between party autonomy and statutory remedies.[10]

5. Threshold Tests and Evidentiary Burdens

  • Continuous conduct: The petitioner must demonstrate a pattern of oppressive or prejudicial acts, not isolated grievances.[11]
  • Burdensome, harsh and wrongful: Following Scottish Co-operative Society v. Meyer and adopted in Shanti Prasad Jain v. Kalinga Tubes, mere loss of confidence or commercial unfairness is insufficient.[12]
  • Causal nexus: The conduct must relate to the “affairs of the company”, excluding purely personal disputes or historic acts unconnected to current management (Colaba Land and Mill Co.).[13]

6. Remedies under Section 402: Scope and Judicial Creativity

Section 402 empowers the Tribunal to craft tailored reliefs, including:

  • Regulation of future conduct of affairs;
  • Appointment or removal of directors;
  • Purchase of shares by other members or by the company;
  • Setting aside of certain transactions or allotments;
  • Alteration of Articles (Section 404).

Courts have exercised this discretion imaginatively—ordering pro rata reconstitution of boards (Kalinga Tubes), nullifying allotments (Dale & Carrington), or mandating independent audits (V.S. Krishnan). The overarching principle is to end the oppressive situation without crippling the enterprise.

7. Continuing Relevance under the Companies Act, 2013

Sections 241–242 of the 2013 Act largely replicate the text and spirit of their predecessors, while adding provisions for class action (Section 245) and strengthening regulatory oversight. Tribunals continue to rely on pre-2013 jurisprudence, rendering the cases discussed above vital precedents.

8. Conclusion

Sections 397 and 398 have evolved from skeletal provisions into a sophisticated equitable jurisdiction balancing majority rule with minority rights. The Supreme Court has progressively refined the doctrines of proper purpose, fiduciary duty and legitimate expectation, ensuring that the remedy remains both potent and disciplined. As Indian corporate structures grow increasingly complex, the principles distilled from Dale & Carrington, Needle Industries, Sangramsinh Gaekwad and allied cases will continue to guide tribunals in navigating the delicate equilibrium between corporate autonomy and shareholder protection.

Footnotes

  1. Company Law Committee Report, 1952, paras 198–202.
  2. Mohanlal Ganpatram v. Shri Sayaji Jubilee Cotton & Jute Mills, 1964 SCC OnLine Guj 66.
  3. Dale & Carrington Investments Pvt. Ltd. v. P.K. Prathapan (2005) 1 SCC 212.
  4. Needle Industries (India) Ltd. v. Needle Industries Newey (India) Holding Ltd. (1981) 3 SCC 333.
  5. Sangramsinh P. Gaekwad v. Shantadevi P. Gaekwad (2005) 11 SCC 314.
  6. V.S. Krishnan v. Westfort Hi-Tech Hospital Ltd. (2008) 3 SCC 363.
  7. Nityanand M. Joshi v. LIC, CLB, 2010.
  8. Suhas Chakma v. South Asia Human Rights Documentation Centre, CLB, 2007.
  9. O.P. Gupta v. Shiv General Finance (P) Ltd., 1975 SCC OnLine Del 147.
  10. Masusmi Sa Investment LLC v. Keystone Realtors Pvt. Ltd., 2012 SCC OnLine Bom 1688.
  11. Suresh Kumar Sanghi v. Supreme Motors Ltd. (1983) 54 Comp Cas 235 (Del).
  12. Shanti Prasad Jain v. Kalinga Tubes Ltd. (1965) 35 Comp Cas 351 (SC).
  13. Colaba Land & Mill Co. Ltd. v. Vasant Investment Corp., 1963 SCC OnLine Guj —.