India: Effect Of Arbitration Agreements On The Company When Entered In Articles Of Association Of The Company

INTRODUCTION:

Section 9 of the Companies Act, 1956 provides that the provisions of the Companies Act, 1956 shall override the provisions of the memorandum and articles of association of the company. Such section also provides that where any provisions of memorandum and articles of association, or any agreement entered into by any parties having its effect on the memorandum and articles of association, agreement or resolution, if any entered into or passed by the Company is repugnant to the provisions of the Companies Act, 1956 ('the Act'), the same shall become or be void.

It is generally seen that in case of share purchase or Shareholders or shareholders and share subscription agreements entered into by the Purchaser/Investor and the promoters/management of the Company, the Company is also a party to the transaction. The Company plays a specific role of the confirming party. The intent of which can be understood with the fact that generally in the aforesaid agreements, the Purchaser/Investor secures its interest in the day to day management of the Company by making the Company a party to such Agreement. To secure such interest in day to day management of the Company, such restrictions are incorporated in the articles of association of the Company so that the management of the Company and the Company is bound by such restrictions.

CHOICE OF DISPUTE RESOLUTION & REFERENCE TO ARBITRATION:

In the aforesaid agreements, the parties thereto generally choose the dispute resolution methodology and either separately or within such agreements agree to the mediation & Arbitration of disputes, if any arisen. The remedies for the shareholders or the stakeholders are also available under the Act which provides that the parties can approach to various forums for the redressal of their grievances including the Company Law Board. However, there have been numerous instances when the Investor have approached the Company Law Board for redressal of their grievances against the oppression and mismanagement even if there is an arbitration agreement contained in the Agreements and as a consequence in the Articles of Association of the Company.

Section 8 of the Arbitration & Conciliation Act, 1940 provides that a Court can refer the parties to a dispute to the Arbitration if the pre requisites as contained under the Section 8 are found in the Dispute. Section 8 of the Arbitration & Conciliation Act, 1940 reads as follows:

8. Power to refer parties to arbitration where there is an arbitration agreement.

  1. A judicial authority before which an action is brought in a matter which is the subject of an arbitration agreement shall, if a party so applies not later than when submitting his first statement on the substance of the dispute, refer the parties to arbitration.
  2. The application referred to in subsection (1) shall not be entertained unless it is accompanied by the original arbitration agreement or a duly certified copy thereof.
  3. Notwithstanding that an application has been made under sub- section (1) and that the issue is pending before the judicial authority, an arbitration may be commenced or continued and an arbitral award made. Therefore, the requisites under Section 8 which the Court generally observes in order to refer the dispute to Arbitration are:
  • Whether the subject matter of the dispute is capable to be decided by Arbitration?
  • Whether there is a valid Arbitration Agreement?
  • If dispute already raised and arbitration notice has been served, whether the dispute and the cause of action before the judicial authority are same?

Arbitration is an alternative to litigation. As with the court in litigation, the decisions of the arbitrator are final and binding. The arbitration clause or agreement, as the case may be sets out the place of arbitration, its procedural governing rules including provisions governing the appointment of the arbitrator and his powers.

OPINION OF VARIOUS FORUMS ON DIFFERENT ASPECTS:

The question that arises here is that whether the arbitration clause that is in the company's charter documents can override the jurisdiction of Company Law Board.

Where the issue regarding arbitration clause between the shareholders of the Company involving an application under section 397/398 of the Act, the High Court of Delhi, in Surendara Kumar Dhawan and another v. R.Vir and others , observed that If the conditions mentioned in Section 399 of the Companies Act are fulfilled, the shareholders of a company will have a right to file a petition for relief against mismanagement or oppression under section 397 or section 398 of the Companies Act, 1956. The provisions in the article of association of the company cannot bar the right of the parties seeking relief. The jurisdiction of the Company Law Board cannot be debarred by any article of the company which refers to arbitration in the matter arising out of any dispute between the directors of the company and its members.

On the basis of the presence of the arbitration clause the court is not liable to dismiss the proceeding under section 397 and section 398 of the companies act. On the same footing, the High Court of Delhi, in O.P.Gupta v. Shiv General Fianance (P.) Ltd. and others , held that where the article of association of the company provides for the disputes between the members of the company to be resolved by arbitration, such clause would not make it mandatory for the court to stay the petition, subject matter of which involves relief in the case of oppression and mismanagement. Existence of arbitration clause in articles of the company thus, would not be enough for the purpose of staying proceedings under section 397 or section 398.

It has become a prevalent practice to insert an arbitration clause, so that the same can come into effect where there arises a dispute in any corporate contract. Even so, the administration of the company is run by the guidelines provided by the articles of the company which is usually expressed in clear and simple language, it is possible that the effect of arbitration clause could not be restrained due to the language used in such articles. The Bombay High Court in Mohanlal Chhaganlal v. Bissessarial Chirawalla approved the broad construction of such article. However in the case of Khusiram v. Honutmal , Kolkata High Court denying such elaborate structure of the article, has emphasized on limited interpretation of the articles and held that only where the dispute has arisen between members who are in close association with the company then in such case it can be held sufficient to invoke the arbitration clause.

In order to not to frustrate the agreement relating to commercial dealing between the members of the company the Bombay high Court in Shiv Omkar v. Bansidhar Jagannath has shown its support for a broad interpretation of the articles of the company, subject to the condition that the transaction in question which gave rise to such disputes are within the purview of the article of association of the company. With respect to private commercial contract regarding members among themselves could held to be liable to be enforced by the arbitration agreement till the time the matter of the dealing is such where the company is affected by it.

It is not uncommon today to see dispute arising out of documents other than the Articles of the Company. In today's scenario we see countless number of disputes arising out of such other documents, be it shareholders agreement or any other form of Joint Venture Agreement. Our court rooms and arbitration tribunals are crammed with such contest. It generally takes place when an investor is introduced in the company and a shareholder's agreement is executed containing terms and conditions regarding the functioning and administration of the company. Such agreement by just its nature and content tends to act as a second set of articles for the company.

In recent times we have seen various pending suits where shareholder's agreement are submitted for litigation and the same are taken to be as a complete governing body of a company without giving much importance to the articles of the company. Under such occurrence it becomes doubtful that the arbitration agreement which is incorporated in the Articles of the company and not in the shareholders agreement, would still govern the members of such company or not. This therefore gives rise to a quandary regarding the invocation of an arbitration clause aggravated in the Articles of a company.

OTHER ASPECT:

There is yet another aspect that can be looked into is regarding the enforcement of arbitration clause where there is a presence of third party in the dispute. It can be argued by the party who wishes to avoid the arbitration proceedings, that the arbitration agreement cannot be invoked as the dispute in question also involves such third party who are not associated with the functions of the company and are not governed by the articles of the company. Such third party is a stranger in context of the articles of the company. We find ourselves surrounded by large number of cases dealt by our judicial system which govern such issue of third party and invocation of arbitration clause.

In this regard, the Andhra Pradesh High court in the case of M/s. Srivenkateswara Constructions and others v. The Union of India , observed as under: "in order to escape the arbitration proceedings it is commonly seen that the parties unnecessarily involve such third party to the proceedings and the court has gone forward in granting stay to such proceedings". It has also been laid down that the parties to the suit cannot escape or avoid arbitration proceedings by involving such party to the dispute against whom no relief or claim is sought.

Where the dispute in question involves parties some of whom fall in the ambit of arbitration clause and some of them are outside the purview of such agreement, in such a case taking a different view Hon'ble Supreme Court in Sukanya Holdings v. Jaiyesh Pandya, held that the court should continue with the suit without ramifying the cause of action.

CONCLUSION:

Therefore, it is clear that the possibility of invoking an arbitration clause in the Articles even to cover disputes between members of a company and concerning the affairs of a company would be established keeping the subject matter of the dispute in mind. The time and energy thus spend would become very significant in resolving even the fundamental doubt as to whether or not certain disputes are necessarily governed by arbitration procedure. This reality is susceptible enough to umbrage the intended charm of a quicker relief from our arbitration laws.

Footnote

1. (1977) 47 Com Cases 277

2. (1977) 47 Com Cases 279

,em>3. A.I.R. 1947 Bom. 268 (India)

4. 53 CWN 505 (H)

5. A.I.R. 1956 Bom. 459 (India)

6. A.I.R. 1974 A.P. 278 (India)

7. Cekop v. Asian Refractories Ltd (1969) 73 Cal WN 192 (India)

8. (2003) 5 S.C.C. 531 (India)

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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