ASSIGNMENT

QUESTION 1:

Briefly describe to your client the various pre-emptive rights and share transfer
restrictions that the Investor and the Existing Promoters could potentially negotiate under
the SHA.

Answer 1:

Pre-emptive rights 

Shareholders of a company usually benefit from the pre-emption rights which give them a right
to the first refusal when new shares are issued by the company. Where the shareholders have pre-
emption rights, they have an advantage over other potential investors because new shares are
first offered to them.

The investors should include the following clauses in the pre-emptive agreements:

1. Retain their ownership

The obvious reason of course is to retain their stake and hence improve their chance of unlocking
a large value if the startup does well. Also, the fact that the startup is receiving investor interest
for the next round of financing itself is arguably a proxy that the startup is doing well.

2. Retain their control

Exercising pre-emptive rights also empowers existing investors to be in the driver’s seat while
negotiating rights in the new SHA. Typically, every new SHA tries to override the rights given
out to investors previously and re-triggers rights giving the latest investors precedence. This is
typically in the case of board seats, liquidation preferences, anti-dilution, and exit rights among
many others (we’ll cover it in subsequent editions). If an existing investor doesn’t participate in
the new round, the extent to which they can negotiate to retain some of these rights would be
limited.
Hence, apart from ownership, participating in the subsequent round also enables existing investors
to remain relevant from a rights and control standpoint!

The founders or the owners of the business should look out for the following:

Well, the basic rule about any aspect of investment or for that matter life is: Always aim to retain
Optionality.

That said, these are standard clauses part of most investment templates and hence founders cannot
avoid having these clauses.

SUPER PRE-EMPTIVE RIGHTS

These are rights for investors to subscribe to shares larger than their proportionate holding. These
are rare and founders should negotiate not having them.

In certain rare cases, when it’s a strategic investor (like a corporate or a larger startup) is
participating in early rounds with a definite acquisition interest (explicitly or implicitly), there
might be a case of Super Pre-Emptive right that they would seek.

WHOM TO OFFER PRE-EMPTIVE RIGHTS ?

Only offer it to strategic investors. Remember the more stakeholders you offer this to, the more
process-related work you will have in terms of issuing them a notice and waiting for their
response

share transfer restrictions

The Companies Act compulsorily requires private companies to impose restrictions on the
transfer of shares by incorporating such restrictions in their articles. 

The directors of the company should have the following rights:

POWER OF THE BOARD OF DIRECTORS TO REFUSE TO REGISTER TRANSFER OF SHARES

The articles of a private company commonly vest the Board of Directors with discretion
regarding the acceptance of a transfer of shares. This power vested in the Board is fiduciary in
nature i.e., it must be employed in good faith and for the benefit of the company and not for
some inappropriate purpose. The consequences of the directors abusing this power and the
remedies available to the aggrieved persons have been dealt with below.

EXERCISE OF POWER OF REFUSAL

The directors exercise their right to decline to register a transfer of shares only by passing a
resolution to that effect; mere failure, due to a deadlock to pass a resolution is not a formal,
active exercise of the right to decline and thus the applicant will be entitled to be registered as a
member of the company.

BURDEN OF PROOF

The burden of proving that the directors have wrongfully accepted or objected to transfers of
shares rests on the person making the allegation. The Courts will always presume bona fide on
the part of the directors.

Q.2 Ranbir wants to subscribe to the shares of Coffeeright Limited, a publicly listed

company that operates a chain of coffee shops across the country. He admires the
fundamentals of Coffeeright, and believes in its ability to generate profits and good returns
for investors, but does not fully trust the board of directors to be fair to him personally and
to adhere strictly to the SHA.

A. Distinguish between a Shareholder's Agreement (SHA): Share Purchase Agreement

(SPA), and Share Subscription Agreement (SSA) for his share transfer. (Maximum word
limit 200 words)
The share subscription agreement is an application made by an investor to join a company

It is an exchange of promises between a potential shareholder known as a subscriber and a

company. A share subscription agreement provides that the company agrees to sell a specific
number of shares at a specific time and price, such that the subscriber becomes a shareholder. In
return, the subscriber agrees to buy the shares at a specific time and a specific price. Share
subscription agreements are common in limited partnerships where the general partner
manages the entire partnership. To become a partner, one must meet the standard requirements
imposed by the share subscription agreement.

The shareholders’ agreement defines the relationship among the shareholders, sets out the terms
and conditions for a shareholding of the company, and is not directly related to the investment
process itself. The shareholders’ agreement is a contract signed by the shareholders of a
company and usually contains details such as the share transfer restrictions, drag-along/tag-along
clauses, non-competition clauses, issuance of shares, termination of the shareholder’s agreement,
and employment matters.

A share purchase agreement is an agreement made between two parties. Here the seller agrees to
sell the mentioned number of shares to the buyer at a specific price. The main aim of the
document is to prove that the terms and conditions of the agreement are mutually agreed upon.
Such an agreement specifies the consideration and the required number of shares that need to be
sold, the conditions precedent, and covenants by the parties. The shares will be allotted after the
parties sign them based on this agreement.

B. How might Ranbir ensure his equity does not get diluted in the future by the directors
despite the shareholder’s agreement? I. Where might he insist the SHA be incorporated in
this regard?

Anti-dilution protection refers to the practice of mitigating the dilutive effect of issuing new stock
for specific shareholders. When it comes to venture to finance, anti-dilution provisions protect from
dilution when shares are sold at a price per share that is less than the price paid by earlier investors.
As with equity dilution, anti-dilution provisions also go by many different names, including
“subscription privileges,” “subscription rights,” and “preemptive rights.” It should be noted that, as
long as the value of the stock held by investors continues to rise, they may not be particularly
concerned about equity dilution. However, if the value of the company decreases, investors are
more likely to want anti-dilution protection.
Commonly, decision-making power and control over the company’s direction are directly tied to
ownership stake percentage and the type of shares held by investors. As mentioned earlier, in some
cases, investors can become outnumbered if their ownership stake is diluted enough. When that is a
risk, anti-dilution measures come into play. Below are the two most common types of anti-dilution
provisions:

Full Rachet: In full ratchet anti-dilution, investors can maintain nearly the same ownership stake as
before the company’s value was decreased. Full ratchet is an anti-dilution provision that, in a
nutshell, requires that early investors are compensated for any dilution caused by future fundraising
rounds.

Weighted Average: More common than full ratchet anti-dilution protection, weighted average anti-
dilution adjusts the rate at which preferred stock converts into common stock based on two factors:

1. The amount of money previously raised by a company and the price per share at which it
was raised.
2. The amount of money raised by the company in future financing rounds and the price per
share during that process.

Question 3. Terry must decide between buying shares or debentures of Lakeville Limited,
A profitable public listed company with a large asset bank. Assist her with the following
query:
What is the difference between a shareholder and a debenture holder? List them out. 
The difference between a shareholder and a debenture holder is as follows:
1. Debentures is a loans while the shares constitute a part of the capital of a
company.
2. Debenture holders can be called the creditors of the company, while the
Shareholders are the owners/members.
3. At times Debentures create a charge on the assets which is not created while
issuing shares.
4. Debentures can be issued at discount, while the shares of a company cannot.
 5. While debentures enjoy an interest even when the company incurs no profit,
dividends can only be issued when the company incurs a profit.
6. It is pertinent to note that the Interest paid on debenture is a business expense and
can be deducted from profits, but the dividend given on shares is not to be treated
as a business expense.
7. Following the aforementioned point, it can also be stated that the interest on
debentures is fixed and the dividend on equity shares is dependent on the profits
and the decision of the board of directors.
8. The interest paid on debentures is given priority over the dividend paid on shares.
The difference between a shareholder and a debenture holder is that of a member and a lender.
While a shareholder can be regarded as a member of the company, a debenture holder is nothing
more than a lender as long as he owns debentures.

Question 4. What is the role of a promoter in an IPO Process? Discuss in brief along with
relevant sections of the Companies Act, 2013, and case law. 
Section 2(69) of the Companies Act 2013, deals with the term Promoter:

 A person who has been named as such in a prospectus or is identified by the company in
the annual return in section 92; or
 A person who has control over the affairs of the company, directly or indirectly whether
as a shareholder, director or otherwise; or
 A person who is in agreement with whose advice, directions, or instructions the Board of
Directors of the company is accustomed to act.

In simple words, the promoter may be an individual, a firm, or a company that does all the
necessary preliminary duties to bring a company into existence. The promoter’s work is to
formulate new ideas and develop them and also persuade others to join the company. In the IPO
process s/he generally offers IPO to raise money and get access to liquidity by offering their
stocks/shares to the public. Companies have to abide by the IPO process in India - as stipulated
by stock exchanges - before their shares are eligible to be publicly traded. This process is often
complicated and long-drawn.
In the case of “Bosher v. Richmond land and co,” the word company promoter was explained.
A promoter is a person who brings the idea of forming the company and incorporating it. He
brings together the people who are interested in forming a business form of organization and he
sets in the motion the machinery of the company which leads to the formation itself.

In weaver’s Mills Ltd. V. Balkies Ammal, the Hon’ble Madras High court held that the if the
company doesn’t ratify or adopt the pre-incorporation contract under the Specific Relief Act
when the common law principle would be applicable and the promoters will be liable for breach
of contract.

Question 5. Rajesh is the promoter, director, and founder of Steelworks Pvt. Ltd., a
company incorporated under the laws of India. As per the object clause of its MOA, the
object of the incorporation of the company was "to make or sell, or lend, or hire, railway
carriages and wagons, and all kinds of railway plants, fittings, machinery, and rolling
stock; to carry on the business of the mechanical engineers and the general contractors; to
purchase and sell, as merchants, timber, coal, metals, or other materials; and to buy and
sell any such materials on commission or as agents. Rajesh entered into a contract with
Ravi, for the construction of a railway line in Nepal and the financing of the construction.
The object clause of the company specifically mentioned that there was a need for a special
resolution to indulge in any activity which was beyond the scope of the object clause in the
MOA. However, Rajesh superseded this requirement and agreed to give Ravi the loan and
financing they needed to build the railway line. The contract which was thus entered into
by the company was ratified by all the members and other shareholders of the company.
However, later on, the company reneged on its side of the deal repudiating the contract
that was entered into by Rajesh and Ravi. Ravi sued Steelworks Pvt. Ltd. for breach of the
contract and claimed damages.
Rajesh seeks your advice on whether Steelworks could have entered into a contract that
was beyond the scope of the object clause in the MOA of the company. Explain relevant
case law.
Answer 5.
The object clause of MoA defines the activities to be carried on by the company and outlines the
scope of business. A company cannot indulge in activities other than those provided in the object
clause. The activities carried on outside the scope drawn by MoA are called ultra-vires activities.

Activities that are similar to each other and are of the same field are related and that do not fall
under the same field are unrelated activities. By referring to related activities, we mean the two
activities are related in one way or belong to the same industry. For example, let’s discuss a
software development company, the main activity of the company is to develop software for
clients and deploy them in the market. This company can hire new employees and make them
used to the process and services of the company they will have to give them proper training.
Imparting training for the benefit of the company or to achieve the business goal is permitted but
doing it as a lead service is not allowed. Also, a digital marketer can be included as it relates to
the same field or industry.

Here Rajesh is involved in the financing of the railway tracks then which is related to the railway
construction only. And as we studied earlier the company can involve in related activities unless
it is isolated from the goal of the company. Herein the goal of the company is the construction of
a railway line and related activity that is financing that railway line is related and hence Rajesh
can involve in this activity.

QUESTION 6. Mr. Charan is the Managing Director (MD) of Novel Plastics Limited (the
"Company"), a company engaged in the manufacture and sale of plastics and raw
materials. Under Clause 25 of its Articles of Association (AA), the Company can have a
Board consisting of 15 directors. The AoA, under Clause 37, provides that a quorum of
three directors is mandatory for conducting Board Meetings, Further, under Clause 50 of
the AoA, the MD of the Company has been provided with certain powers, including the
power to decide matters about the remuneration of the Company's directors, from time to
time, at the Board Meetings. At present, the Company has 6 directors who are holding
their respective offices, namely, Mr. Kartar Singh (Kartar), Mr. Ravit Arora (Ravit), Ms.
Navya Chopra (Navya), Mr. Mayank Laul (Mayank), Ms. Kanta Kapoor (Kanta), and Mr.
Charan (Charan), and one independent director, namely, Ms. Veena (Veena).
On December 31, 2019, Mayank hosted a party in his house to celebrate his birthday. In
addition to other guests, Kartar, Ravit, Navya, Kanta, Charan, and Veena are also invited
to the party, wherein all the directors, including Charan, discuss certain matters about the
Company's business. Also, during the party, Kartar, Ravit, and Navya inform Charan that
they have finalized a plan to go to Kerala on a holiday until January 31, 2020.
On January 6, 2020, it comes to Charan's attention that:
(1) all contracts for sourcing raw materials for the Company were terminated by the
existing suppliers, and
(2) considering the small buffer maintained by the Company in its production process, if
new contracts are not entered in the next few days, then the Company's production will
suffer causing a grave economic loss to the Company and its shareholders.
Consequently, on January 7, 2020, Charan sends notices (via post as well as email) to all
directors that a Board meeting will be held on January 10, 2020, at his house to discuss
certain important issues that will be disclosed only at the Board Meeting. The Board
Meeting is attended by Veena, Kanta, Mayank, and Charan. The following resolutions are
passed: (1) to float tenders, inviting bids from suppliers, for finalizing new raw material
contracts, and (2) in case the contracts get delayed, and the Company suffers a financial
loss owing to production delays, the directors' remuneration for the month of March 2020
will be reduced by 25%.
Kartar, Ravit, and Navya filed a case to get the Board Meeting invalidated on the following
grounds:
(1) Charan scheduled a Board Meeting primarily to exclude Kartar, Ravit, and Navya and.
(2) No agenda for the Board Meeting was circulated, especially when a decision regarding
directors' remuneration had to be taken.
Charan has approached you for legal advice concerning the following queries:
(a) Did the act of passing the resolutions amount to fraud? Discuss the Companies Act,
2013, and relevant case laws. 
The act of passing the resolution doesn’t amount to fraud since all the requirements of the
resolution were fulfilled. The notice was provided by mail and post to all the members. They
were not excluded on purpose. These members didn’t come to the Board meeting of their own
choice.
The relevant provisions in this regard are provided in section 175 of the Act read with relevant
Rules under the Act and Secretarial Standards. As per the said provisions, for the passing of the
resolution by circulation, the draft of the said resolution along with necessary papers are required
to be circulated to all the directors, including interested directors, of the company at their
addresses registered with the company either through hand delivery or by registered post or by
courier or by email or by any other recognized electronic means. 

Lee V. Lee’s farming company, 1960

Lee incorporated a company in which he was the managing director. In that capacity, he
appointed himself as a pilot of the company. While on the business of the company he was lost
in a flying accident. His widow claimed compensation for personal injuries to her husband while
in the course of his employment. It was argued that no compensation was due because L & lee's
Air Farming Ltd. were the same person.

1. L was a separate person from the company he formed and compensation was payable.
2. His widow recovered compensation under the Workmen's Compensation Act
3. A member of a company can contract with a company of which he is a shareholder.
4. The directors are not precluded from being an employee of the company to workmen's
compensation legislation.

(b) Is the Board Meeting valid? Discuss its legality concerning the Companies act, 2013. 
The board meeting was valid since it fulfills all the requirements of the Board meetings under the
companies act.
1) It is properly convened by proper authority
It was convened by the proper authority that is the board of directors.
2) Proper notice was served (section 101 and 102 of the companies act)
Notice of the meeting was served before the meeting both via mail and post. Therefore sections
101 and 102 of the companies act were followed. The day, date, and place of the meeting were
clear in the notice. Hence the notice was valid and this condition was fulfilled.
3) Presence of a proper Quorum (section 103 of the companies act)
As per the company’s policy more than 3 members were present at the meeting and therefore the
meeting was valid as per section 103 of the companies act.
4) Business was validated and transacted at the meeting
The business of tender and the remuneration of the board members were discussed at the valid
meeting.