Power to refuse free transfer of shares

Ashok Dhamija

Free transferability of shares of public companies ensures permanent capital to the company, while at the same time ensuring liquidity of shareholder's investment. Shares of public companies are made generally freely transferable without the need to take permission from the company or any other agency. To facilitate this, shares or any other interest of a shareholder in a company has been declared by law as movable property in Section 82 of the Companies Act, 1956. Till recently, companies were permitted to place reasonable restrictions on transferability of shares, however, a company could not completely prohibit transfer of shares. The Companies Act did not restrict the grounds on which a company could refuse to register a transfer of shares. However, in the case of listed companies, Section 22A of the Securities Contracts (Regulation) Act, 1956, the board of directors could refuse to register a transfer on only one or more of the following four grounds: The instrument of transfer is not proper or has notbeen duly stamped and executed or the certificate relating to the security has not been delivered to the company or that any other requirement of law relating to such transfer has not been complied with; or the transfer is in contravention of any law or rules made thereunder or any administrative instructions or conditions of listing agreement; or the transfer is likely to result in such change in the composition of board of directors as would be prejudicial to the interest of the company or to the public interest; or the transfer is prohibited by any order of any court or tribunal or other authority under any law for the time being in force.

It was common for companies to provide that the directors could at their absolute and uncontrolled discretion decline to register any transfer of shares. However, it was held by the Supreme Court in the case of Bajaj Auto Limited vs NK Firodia, AIR 1971 SC321 that: "... In the exercise of that discretion the directors will act for the paramount interest of the companyand for the general interest of the shareholders.''

In the recent case of Bajaj Auto Limited vs Company Law Board, AIR 1999 SC345, it was reiterated by the Supreme Court that the power of the board of directors to refuse registration of transfer of shares must be in the company's interest and the general body of share holders. It was further held in this latest case that: `...in the case of a public limited company, an important right of share holder is to be able to sell his shares at a favourable price. It is seldom in the interest of the general body of shareholders that transfer of shares be refused as that will have an adverse impact on the market price of shares."

Thus the legal position till recently has been that while shares of a listed public company were generally transferable freely, the companies were allowed to provide power to their boards to refuse registration of transfer of shares on the grounds mentioned in Section 22A of the Securities Contract (Regulation) Act. An aggrieved transfereeof shares was entitled to appeal against the refusal of the company to transfer of shares to the Company Law Board under Section 111 of the Companies Act.

However, this legal position has changed with the depository system coming into existence. The Depositories Act, 1996 has changed this in the following manner:

A new Section 111A has been inserted in the Companies Act, a combined reading of subsections (1) and (2) of which shows that the shares (or debentures) of a public company, and any interest therein, shall be freely transferable.

Section 22A of the Securities Contract (Regulation) Act which inter alia specified the grounds for the refusal of registration of transfer of shares by a company has been omitted completely.

By inserting subsection (14) in Section 111 of the Companies Act, it is now provided that this section, which related to the power to refuse registration of transfer of shares and appeal against such refusal, shall be applicable only to the private companies. Thus,this section will have no application to public companies now.

Due to newly inserted subsection (3) in Section 108 of the Companies Act, transfer of shares can now take place between a transferor and transferee directly in the records of the depository without following the detailed procedure under Section 108 (of submitting transfer form, etc) if both of them are entered as beneficial owners in the records of a depository.It is now clear that the shares of a public company have now been made freely transferable fully. In fact, transfer of dematerialised shares takes place in the records of the depository itself. The depository is required under Section 13 of the Depositories Act to furnish information about the transfer of securities in the names of the beneficial owners to the company at regular intervals. A public company cannot now refuse to register transfer of shares in view of the aforesaid changes in the law. A question may arise as to what will happen if the existing articles of a companyprovide power to its board to refuse registration of transfer of shares. The answer is simple. Section 9 of the Companies Act specifically provides that any provision contained in the memorandum or articles of association of a company shall be void to the extent to which it is repugnant to the provisions of the Companies Act. Thus, any provision which is in contravention to any provision in the Companies Act or any other law (Securities Contract (Regulation) Act here) shall be void. Accordingly, any existing provision in the articles of a public company empowering its board to refuse registration of transfer of shares on any grounds, whatsoever, shall be void.

However, the Sebi (Substantial Acquisition of Shares and Takeovers) Regulations, 1997 which prescribe the manner in which a person can acquire more than five per cent shares of a listed company (by filing disclosures to the company) or more than 15 per cent shares of a company (by making a public announcement of his intention) continue to be valid.Thus, while a company does not now have a right to refuse registration of transfer of shares, a substantial acquirer of shares will have to follow the procedure as mentioned in the said regulations, which is mainly aimed at ensuring greater transparency in the substantial acquisition of shares and the takeovers of companies.

Consequently, the investors now will not have to fear much about any probable refusal of registration of transfer of shares by a public company. Transfer of shares can be expected to be more transparent now.

The author was formerly with the Indian Police Service

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