Thursday, October 31, 2013

Transfer of Voting Rights, Without Transfer of Shares: Part 1

[The following post is contributed by Aditi Jhunjhunwala, Senior Associate at Vinod Kothari & Co. She can be contacted at]

The moment one possesses a share of a company, along with it also comes a bundle of rights such as the right to vote, receive dividend, transfer, bonus, rights issue, to share in the surplus, if any, on liquidation, to elect directors etc. These rights then become the property of the shareholder who is entitled to deal with them in any manner as he thinks fit. Once the share is transferred, all the rights and obligations attached to it also get transferred. A share in a partnership reflects the partner’s proprietary interest in the partnership assets: the assets are jointly owned by the partners. In the case of a company, it is not the shareholders but the company that owns the corporate assets, and the concept of a share serves somewhat different functions. In the first place, it is a fraction of the capital, denoting the holder’s proportionate financial stake in the company. Secondly, it is a measure of the holder’s interest in the company as an association and the basis of his right to become a member and to enjoy the rights of voting, etc. so conferred. And, thirdly, it is a species of property in its own right, a rather complex form of chose in action, which the holder can buy, sell, charge, etc., and in which there can be both legal and beneficial interests.

This post discusses, analyses and takes the position that can a shareholder unpack these bundle of rights and thereafter deal with any of the elements in a manner suitable to him, i.e. can he transfer any one of the rights and still retain the beneficial interest in those shares, or that can he transfer any part of such rights without parting with the shares. This write up specifically deals with transfer of voting rights without any transfer of shares.

Ways of transfer of voting rights

Concept of Voting Trust

Voting trust is whereby persons owning shares with voting powers retain ownership while transferring the voting rights to the trustees. The Voting Trust Agreement is an agreement whereby a voting trust is created and the shares in a company of one or more shareholders are legally transferred to a trustee for a certain period of time. In the Voting Trust Agreement, the trustee appointed is granted additional powers such as the ability to sell the shares. At the termination of the term of the trust, the shares held by the trustee would be transferred back to the shareholders. The concept is usually prevalent in US and offshore jurisdictions.

Section 153A of the Companies Act, 1956 (the Act) provided that the Central Government may appoint a person as public trustee to discharge the functions and to exercise the rights and powers conferred on him by or under the Act. This was however withdrawn and the trustees were now to directly exercise voting rights. Therefore the provisions of law also had a concept and permitted separation of the voting element from the bundle of rights.


If a shareholder appoints a proxy to vote on behalf of such shareholder in a meeting, can that be called separation of voting rights and ownership rights? The answer is no. In case of a proxy the shareholder is merely appointing a person to act on its behalf whereas in case of a transfer of voting right it has separated the bundle and set aside one of the elements. Surely, the shareholder need not execute a transfer deed to appoint a proxy. The Act recognizes a power of attorney for the purpose of transfer of voting rights as has been cited below.

In Cousins v. International Bricks Co. Ltd., (1931) 2 Ch 90 at 101: (1932) 2 Com Cases 108 (CA) it was discussed that a shareholder may give an irrevocable power of attorney to a person to cast votes on his behalf in the general meeting and also sign proxy forms on his behalf as constituted attorney. The constituted attorney’s position is that of a proxy and he can attend and vote at the meeting. If the shareholder himself attends the meeting, the power of attorney shall stand revoked thereby.



Is a pledge is a mode of transfer of voting rights without transfer of shares? The answer is yes. Pledge is very common for raising funds, where shares are pledged as collateral towards raising working capital or a term loan, to increase their holding or to fund an acquisition. The pledgor or the borrower will continue to receive dividend on the pledged shares. The pledgee or the lender will get the benefits only if a pledge is invoked and on record date the shares are in the lender’s account. The securities arising out of corporate actions like split, mergers, consolidation, etc. will be credited to the account of the pledgor with pledge marked in favour of the lender. Moreover, the lenders also get the right to sell the shares pledged by the promoters in case of default made by the promoters.

A pledgee or the lender may contractually enjoy voting rights over such shares in spite of the fact that in reality there is no actual transfer of shares by execution of transfer deed. All the rights and benefits attached to the shares otherwise are transferred to the pledgor.

In the case of Mohini Mohan Chakravartty v. Mohanlal Thalia[1], it was held by the Hon’ble Calcutta High Court that the shares when pledged with the pledgee, only create a special property in the shares and the pawnee of shares in a company cannot be treated as the holder of shares nor is he entitled to receive any dividend on the shares.

Disclosure for Pledge

In India, until recently when Securities and Exchange Board of India (SEBI) made it compulsory for promoters to disclose their pledged shares vide insertion of Regulation 8A in SEBI (Substantial Acquisition and Takeover) Regulations, 1997, there were no disclosure norms. However, post Satyam debacle, SEBI has made it mandatory for promoters and promoter groups to disclose the details of pledging of shares of their listed entities.

The SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 2011 (the Takeover Code) has made it mandatory for the promoters and their persons acting in concert to make all disclosures relating to any “encumbrances” created by them on their securities. The term “encumbrance” has been specifically used to widen the scope of the disclosures to be made by the promoters. Regulation 28(3) of the new Takeover Code provides an inclusive definition of “encumbrance” as, “it shall include a pledge, lien, or any such transaction, by whatever name called.” Thus, disclosure will have to be made in case of pledge of shares. Further, in case the pledgee gets voting rights also or has the right to cause the shareholder to vote as per the instructions of the pledgee, the transaction would well amount to acquisition of control and hence, triggering the Regulation 3 for making public announcement as well.

Under clause 35 of the listing agreement, a disclosure regarding the shareholding pattern of the company and the “promoter and promoter group” has to be made while under clause 41, the company is required to submit its financial results of every quarter. Both the clauses though existed earlier too, have been amended to include within its ambit necessary disclosure of shares pledged by the promoter and promoters group by virtue of the change in the Takeover Code.

(to be continued)

- Aditi Jhunjhunwala

[1] AIR 1964 Cal 470


Anonymous said...

n Cousins v. International Bricks Co. Ltd., (1931) 2 Ch 90 at 101: (1932) 2 Com Cases 108 (CA) it was discussed that a shareholder may give an irrevocable power of attorney to a person to cast votes on his behalf in the general meeting and also sign proxy forms on his behalf as constituted attorney. The constituted attorney’s position is that of a proxy and he can attend and vote at the meeting. If the shareholder himself attends the meeting, the power of attorney shall stand revoked thereby.

Was it really construed to be an irrevocable power or revocable (at the instance of shareholder himself/herself attending the meeting)?

Great, but clarity on finer points would be much appreciated.

Anonymous said...

One fails to understand how Mohini Mohan Chakravartty v. Mohanlal Thalia proves or shows that pledgee enjoys voting rights over the shares based on the capsule summary provided by Ms. Aditi Jhunjhunwala

Anonymous said...

^^^^ Since the power of attorney was revoked by the shareholder attending the meeting, definitely it was held to be a revocable power of attorney.

Overall, not a great post, frankly. The case law given for pledge does not explain how the borrower parted with his right to vote by pledgign his shares

Anonymous said...

Dear Umakanth,

If you could please clarify the as to when 100% voting rights in a company A are transferred in favor of company B without transfer of shares,does this mean latter becomes the subsidiary of former.

The above transfer happens in pledge of 100% shares of company A with company B.

Umakanth Varottil said...

On a plain reading of the Companies Act, a company (B) exercising 100% voting rights in another company (A) may make A the subsidiary of B. This is because section 2(87)(ii) uses the words "exercises" or "controls" more than half of the share capital of the company. This could arise if voting rights are handed over without a transfer of the shares. Moreover, the other test in section 2(87)(i) is that whether B has the ability to control the composition of the board of directors of A, which is will have due to the voting rights it has obtained although it does not own the shares. These are just some preliminary thoughts. In case any of the readers have a different view point, please feel free to express the same.