Whether Related Party Transactions really need a relook?

Background: Recently, an article was published in Economic Times on the topic of Related Party Transactions (titled, Related Party deals in Companies Act need a relook). The article was in relation to the Annual General Meeting of Tata Sponge Iron Limited wherein the company had proposed 3 resolutions relating to related party transactions for shareholders approval. The company faced defeat on all the 3 resolutions. Out of the 45.5% non-promoter shareholders, only 12.43% participated in the voting; of which 66.76% opposed the resolution. The company faced defeat on all 3 resolutions for approval of RPTs with just 3.77% of the total shareholders opposing it. It can be said that the shareholders holding 3.77% virtually bulldozed the wishes of 96.23%.

Provisions under Companies Act, 2013 & SEBI Listing Regulations: Under the extant provisions of the Companies Act, 2013, a related party is prohibited from voting on the resolution as a shareholder where the related party is party to the contract. Whereas, under SEBI Listing Regulations all the related parties are prohibited from voting, irrespective whether the shareholder is a related party or not.

Presently, under the Companies Act, 2013 (section 184), every director of a company who is in any way, whether directly or indirectly, concerned or interested in a contract or arrangement or proposed contract or arrangement entered into or to be entered into shall disclose the nature of his concern or interest at the meeting of the Board in which the contract or arrangement is discussed. Such director shall not participate in the meeting of the board of directors.

Under the Companies Act, 2013 (section 184), where any director who is not so concerned or interested at the time of entering into such contract or arrangement, he shall, if he becomes concerned or interested after the contract or arrangement is entered into, disclose his concern or interest forthwith when he becomes concerned or interested or at the first meeting of the Board held after he becomes so concerned or interested.

Analysis: After notification of the Companies Act, 2013 and introduction of the SEBI Listing Regulations, related party transactions have been at the center stage of corporate governance arena. The crux of the entire issue is – Whether prohibition on voting by related parties is constitutionally valid? In my view, such prohibition amounts to depriving a person of his right to vote and it is a well settled principle of the company law that depriving a voting right is depriving the property, since vote is property. The shareholders vote is a right of property, and prima facie may be exercised by a shareholder as he thinks fit in his own interest. A member can exercise this right even in a manner adverse to what others may think the interest of the company, provided his vote is bona fide and contrary to public policy. It is settled in company law that right to vote attached to a share is property. In my view, neither Companies Act, 2013 nor SEBI Listing Regulations shall take away such right of a shareholder (whether as a promoter or non-promoter, whether related party or not).

I am of the opinion that the Companies Act, 2013 and SEBI Listing Regulations shall enhance the disclosure requirements for such related party transactions. Such disclosures can be part of Explanatory Statement to the Notice of the general meeting. The law may also direct the companies to give a public notice / advertisement of such related party transactions. The law may also direct the board of directors to provide a declaration that such related party transaction is in the interest of the company with requisite reasoning. The declaration may also contain a provision that all the necessary disclosures by the directors have been made to the shareholders. In my view, not all RPTs are against the interest of the company. Some RPTs may be a requirement of the company to focus on its core business activity. Better disclosures and transparency by the board of directors will also eliminate the possibility (which is now a reality as well!) of majority shareholders being at the mercy of minority shareholders.

In my book on Related Party Transactions, in one of the Chapters, I have compared the RPTs provisions under the Companies Act, 2013 and SEBI’s Listing Regulations. There are 26 comparative points on the provisions relating to RPTs. The other RPT provisions includes scope of related party, type of specified transaction, ‘pricing parameter’, reference of ‘ordinary course of its business’, Audit Committee’s approval, recommendation to the board of directors where RPT is not approved by Audit Committee, ratification of RPTs by Audit Committee, material RPTs, trigger point for shareholders’ approval, provisions relating to royalty payment, annual disclosures, etc. The regulators shall harmonize the said provisions which will ultimately address the real issues in RPTs.