Lock ins, ROFRs, tag alongs, drag alongs – understand the four types of transfer restrictions

Drafting_for_Business_Deepa_Mookerjee.jpgShareholders agreements, we all know, list the rights and obligations of the shareholders in a company and contain clauses that are vital for any M&A transaction. We have already discussed one such clause, the conditions precedent clause. Let us now study another set of clauses – commonly grouped under the term, ‘transfer restrictions’.

Consider the case of a foreign investor who intends to purchase 26 per cent of the shares of a company and has all the know-how and expertise to run the business. This investor’s participation is critical to the business and its Indian partner in the business would prefer that it does not exit the company. Even the foreign investor, mindful of its faith in the Indian partner, would not want the Indian partner to exit the company. The shareholders agreement therefore, would contain clauses that restrict the foreign investor and the Indian partner from transferring their shares to a third party.  A ‘transfer restriction’, simply put, restricts shareholders from transferring their shares in the company.

All doubts about the legality of transfer restrictions under the Companies Act, 1956 has been cleared by the proviso to Section 58(2) in the Companies Act, 2013. It clearly states that “any contract or arrangement between two or more persons in respect of transfer of securities shall be enforceable as a contract”.

While there is no formal clarification from the Ministry of Corporate Affairs regarding this insertion, it appears that that this provision is an attempt to codify the principles laid down in the judgment of the Bombay High Court in the case of Messer Holdings Limited v. Shyam Madanmohan Ruia and Others, [2010] 104 SCL 293 (Bom). The Court held that it is open to shareholders to enter into consensual agreements in relation to the specific shares held by them, provided such agreements are not in conflict with the articles of association of the company, the Companies Act, 1956, and its rules. Such agreements can be enforced like any other agreement and does not impede the free transferability of shares.

The Companies Act, 2013 has also recognised the position that a share is the property of the shareholder. The shareholder is free to transfer his or her property, provided that it is not in conflict with the articles of the company and other provisions of company law.

Let us now focus on a few common transfer restrictions.

Lock-in period

By a specifying a period during which a party is prohibited from transferring or selling its shares in the company, a shareholder is ‘locked in’ to the company. This restriction can apply to one, some, or all the shareholders of in the company.

There is no specified time period applicable to all transactions. Parties determine the time period for the lock-in depending on commercial considerations such as the nature of the business. Sometimes, the time period may differ among shareholders.

The Indian party in our earlier example may feel that five years is sufficient time to absorb all the foreign investor’s know how and then run the business independently. In such a case, the Indian party would probably be content with a lock-in period of five years applicable to the foreign investor.

Right of first refusal

Sometimes, a shareholder who intends to sell its shares to a third party can only do so after first offering them to the other shareholders and only if they refuse to purchase these shares. The price at which the shares are sold to the third party must be equal to or higher than the price at which they were offered to the other shareholders. This gives the other shareholders in the company a right of first refusal, that is, a right to purchase shares which helps consolidate their own shareholding in the company and also prevent the entry of an undesirable purchaser.

Tag along right

A right is some times granted to a minority shareholder to require the majority shareholder to sell its shares along with those of the majority shareholder, to the same third party. This gives a minority shareholder, the right to exit the company if it does not want to continue in the company with a new majority shareholder.

Drag along right

While a tag along right is granted to a minority shareholder, a drag along right is typically granted to a majority shareholder. A majority shareholder will have the right, while selling its own shares, to require the minority shareholder to sell its shares as well. The majority shareholder can thus drag the minority shareholder along while making a sale.

This right is important from the perspective of a new investor. Consider the case of an investor who is about to purchase 95 per cent of the shares of a company from one party in which another party holds the remaining five per cent shares. Since a new investor would prefer to own all the shares and take full control of the company, the majority shareholder would prefer to exercise a drag along right and force the minority shareholder to sell its five per cent to the same new investor.

The key point to remember while drafting any of these clauses is that your clients (whether a majority or minority shareholder) would like to maximise their investment while exiting the company. Therefore, determining the price at which shares are sold is critical.

Say for instance, your client has a drag along right. While drafting this clause, it may be best to lay down certain principles as to how the share price will be determined to ensure that there is no dispute at a later stage. Generally, the minority shareholder sells his or her shares at the same or higher price than that which is offered by the third party for the shares of the majority shareholder.

Always be very clear while drafting these clauses. You should choose your words and terms carefully and ensure there is no ambiguity while interpreting the nature of the restriction. Remember that these clauses are primarily contractual in nature and will always change depending upon the nature of the transaction. Never cut and paste a clause from another agreement without applying your mind to the facts of your transaction. In short, put in time and effort in understanding the transaction and only then draft a clause to suit the requirements of your client.

(Deepa Mookerjee is part of the faculty on


Three points to remember while drafting conditions precedent clauses

Drafting_for_Business_Deepa_Mookerjee.jpgA shareholders’ agreement is a contract that contains the rights and obligations of the shareholders in a company. It typically supplements either a share purchase agreement or a share subscription agreement. You can read more about them in my post on the documents that you will come across during M&A transactions.

Almost every shareholders agreement looks similar. You will see a title, a table of contents, a recital clause, an interpretation clause, and introductory clauses describing the transaction. These clauses have been discussed in detail in’s course on Advanced Commercial Contracts. In this post, I will explain the conditions precedent clause, which is typically seen in all shareholders agreements.

A condition precedent is usually a legal term describing a condition or event that must occur before a contract is considered in effect or any obligations are expected of either party. Here are a few examples.

A is purchasing 100% of the shares in a company whose main business is selling computers to the public. The company does not manufacture computers itself but sells the computers it receives from different distributors. From A’s perspective, the company’s relationship with its distributors is key because if the distributors don’t provide computers to the company, it will have nothing to sell. Many of the distributors’ contracts with the company require their prior approval before a 100% transfer of shares takes place. A would only want his obligation (to purchase shares and pay consideration for them) to be triggered once the company receives these approvals. The receipt of these approvals therefore, is a condition precedent that must be fulfilled by the company before the transaction is effective.


Take another example. B, a non-resident investor who has an investment in an IT company in Mumbai, wants to invest in an IT company in New Delhi. One of the terms of the transaction is that B must sell his interest in the Mumbai-based company before making the investment. So, the sale of those shares in the Mumbai-based company is a condition precedent that B must fulfill before he can invest in the Delhi-based company.

If these conditions are not fulfilled, there will be no deal. Common conditions precedent in M&A transactions include those in relation to obtaining approvals from the regulators, firing or hiring particular employees, ensuring that sufficient cash is available in the company, obtaining approvals from third parties, and ensuring that lease agreements are in place.

On whom is the obligation cast?

Let’s take a closer look at the examples above. You will see that the obligation to fulfill the condition precedent in the examples is cast on different parties. In the first example, the obligation to obtain approvals from distributors is cast on the investee company, that is, the company in which the investment is being made. In the second example, it is cast on the foreign investor. Conditions precedent can thus differ on the basis of the party on which the obligation to fulfill it, is cast. Some obligations can be cast on the investee company, some on the investor, and some jointly on the investee company and its shareholders.

For instance, C is a foreign investor who wants to invest in a company operating in a sector where the approval of the Reserve Bank of India is required for any foreign investment. Typically, the burden of obtaining this approval is cast jointly on all parties because each party’s cooperation is required for obtaining this approval.

While drafting a conditions precedent clause, you must take care to identify the party on whom the obligation to fulfill a particular condition is imposed. This is vital as each party is responsible to fulfill its own obligations in relation to the conditions precedent. While casting an obligation on the investee company, you should examine whether it is also useful to cast the obligation on its shareholders (or at least the majority shareholders) if they control the operations of the company.

The right to waive a condition precedent

Another point vital to this discussion is whether conditions precedent can be waived. Look at the first example. Assume that the investee company has only obtained approvals from fifty percent of its distributors. A, the investor, would really want the deal to go through and should be happy with approvals from these distributors if they are the major ones and would want to waive the condition that approvals must be obtained from all the distributors. Once A has waived the fulfillment of this condition, the deal can go through. The right to waive the fulfillment of a condition precedent is very important in all M&A transactions. Always include this right when you are drafting a condition precedent. The important point to keep in mind is that the person who has the right to waive the condition must be different from the person who is obliged to fulfill the condition.

In the first example, the right to waive the fulfillment of the condition in relation to obtaining consents from distributors must be with A and not the investee company. The investee company can never have the right to waive fulfillment of a condition that it is obliged to fulfill. Similarly, in the second example, the right to waive the condition in relation to withdrawal from the Mumbai-based IT company is on the investee company and not B, the investor.

Since these are all contractual rights, it is up to the parties to decide whether they would like to waive the conditions in part or in full. As a lawyer, your duty is to ask these questions from your client before you start drafting so that you can use the words that are appropriate to your client’s interests.

When should the conditions precedent be met?

Finally, always insert a date by which all the conditions precedent must be met. This is typically called the ‘long stop date’ and is important to ensure that there is no undue delay in the performance of the contract or the fulfillment of the conditions. Parties know that they must fulfill the conditions precedent by a specific date. While drafting this clause however, always include the following or similar words:

The Conditions Precedent must be satisfied by April 20, 2015 or any date as may be mutually agreed between the Parties.

The words in plain text above give the parties to a contract the right to mutually agree and extend the time for the fulfillment of the conditions. If, for example, regulatory approval — a condition precedent for a particular deal — takes longer than anticipated, the parties should have the right to extend the long stop date if they feel the need to do so. This is also important because if conditions precedent are not satisfied, the transaction is terminated, and parties must have the flexibility to prevent this.

As you start drafting conditions precedent, you will realise that there are many nuances to the manner in which you draft these conditions. For instance, you may use the words ‘use all reasonable efforts’ to dilute the obligation on a party. In such cases, that party only has to show that it has used all reasonable efforts to fulfill the condition and that will be enough (even if the condition has not been fulfilled).

Keep drafting and with practice, you will get better at drafting conditions precedent clauses.

(Deepa Mookerjee is part of the faculty on


Be cool, look sharp, take notes – these and more tips to ace your M&A negotiation

Drafting_for_Business_Deepa_Mookerjee.jpgIn my last post, I discussed some key points that you need to remember while preparing for a negotiation during an M&A transaction. Let us now discuss the things you have to bear in mind after negotiations have started.

Your demeanour

Clients and parties come with different temperaments. Some of them may seem polite while others may be a bit rude and even a little pushy. Irrespective of how the other side is behaving, you have to be equable and composed at all times. Be firm but polite. Do not get ruffled by any behaviour from the opposing side. Put your case across clearly and (if necessary) a bit forcefully but avoid foul language, impolite behaviour, and harsh words, all of which are more likely to lead to an unsuccessful conclusion.

For a negotiation to be successful, all parties must be calm, composed, and ready to find a solution or a compromise. Remember that you are the lawyer and therefore, do not have a personal stake in the subject of the negotiations. Your clients on the other hand, are financially (and possibly even personally) invested in the transaction, and so may be unable to take a balanced approach to some issues. You have to be the voice of reason.

As discussed in the last post, you need to know your client’s bottom line before the negotiation starts. However, if during the negotiation, your client is being unreasonable, either try to park the issue for a lengthier discussion later or ask your client to step out of the room to discuss the matter privately. If the discussion has stalled on a particular issue, try to move on and resolve other smaller issues before circling back to the unresolved one. Parties are likelier to feel that they have achieved something rather than return to an issue feeling like there was no resolution on any of the issues.

Your attire

While your attire may seem a slightly foolish (and even flighty) issue to even mention in this context, do not underestimate the importance of your clothes. For instance, if you came to the negotiations in your pyjamas or in wrinkled clothes that look like you just rolled out of bed, your client may feel that you are not taking the negotiation seriously. Even your opposing counsel is likely to feel that you have not taken the negotiation seriously. You need the opposing side to take you seriously and have faith in your abilities as a negotiator. Only then will they listen to you and consider your point of view. Dressing the part is important.

Always dress formally. Look smart, clean, and well put-together. Remember this is a key part of your job and you must dress in a manner that is acceptable in your office.

Take detailed notes

As a lawyer, we sometimes feel that it is not our job to take detailed notes. After all, we took notes throughout our student lives and taking notes during a negotiation might make us look like we are back in college. Having so much faith in your memory can get you into trouble because it is unlikely that you will be able to remember everything. After all, negotiations can continue for days and quite often, issues that had seemed resolved are re-visited to reach a fresh conclusion. Particularly in such situations, no matter how good your memory, you are likely to be confused if you don’t jot down those points or the conclusions that have been reached.

If you are not used to taking down notes while talking, keep a computer open in front of you and type out the conclusion concisely next to each point. Quite often, lawyers also ask for a very short break after a point has been decided to jot down the result before moving forward.

Remember that all of these points and conclusions will later be inserted in definitive documentation. Your client will rely solely on you to ensure the correct position is reflected in the documents. Having something written down – to refer to later – helps to ensure that your understanding of the results of the negotiation is correct and that you have not forgotten anything important.

Use the breakout room

The term ‘breakout room’ refers to a room outside of the room where the negotiations are being held, where parties can convene with their lawyers to discuss a particular issue. This helps break the monotony of the negotiation if there is any deadlock and gives the parties a chance to honestly review their positions with their lawyers without being overheard by the opposing side. While a negotiation process is going on, suggest a “time-out” or a visit to a breakout room if you feel that things are getting too heated, if you need to discuss an issue with your client privately, or even if you have a new idea or strategy for your client. It is always better to interrupt a gridlocked negotiation than continue to argue without any hope of a result.

Keeping these points in mind will help achieve a successful outcome to the negotiation. However, following these rules does not guarantee success. We should all remember that a negotiation depends mainly on the parties and their behaviour, which is bound to differ from one to the next. For lawyers, the best course of action is to keep these basic principles in mind and then adjust them to suit the temperaments of their clients.

(Deepa Mookerjee is part of the faculty on

Law Schools

Law schools are not very good at teaching drafting – and that’s a problem affecting everyone

AbhinavSekhri_NationalLawSchoolofIndiaUniversityOral advocacy, which we discussed in my last post, is only one aspect of life as a litigator. An equal, if not greater, time and effort is spent in drafting legal documents, which help sustain everyday transactions.

How are the set of skills required for these nurtured in law school? Students at NLSIU only spend one-thirtieth of their time on average trying to draft documents – once during the Drafting Pleading and Conveyancing course in the third year and then in the Trial Advocacy course in the final year. This is undoubtedly a very short amount of time to develop these skills. At times, the focus was to get through as many documents as possible which curtailed the time spent on understanding the meanings of terms involved. Students therefore, end up not much better off compared to those people who may seek them out for advice on a verbose document. This encourages students, upon graduation, to use templates without appreciating how each clause may need tinkering for different situations.

AQOLbannerThere are structural issues at play as well. The current system views drafting mainly as an individual-centric exercise, teaching only those legal documents that natural persons execute among themselves or file in a court. We were taught how to draft mortgage deeds, sale agreements, and bail applications – but always for individuals and never from the perspective of corporate transactions. Elective courses apart, there is no training for drafting or understanding proper contracts, non-disclosure agreements, and their various clauses. This inexperience severely limits the exposure possible at internships, particularly in law firms.

The little that is being taught however, is surprisingly useful in the practice of law. That is simply because documents like sale deeds, bail applications, quashing petitions and the like still contain many formulaic elements and their form has not drastically changed over the last twenty-five years. The law school has been rather adept at simply providing the students those templates for later use. But is that a good thing? I think not.

In failing to critically deal with status quo, the law schools lets go of its most important responsibility – making the students think about the legal system. The manner in which legal documents continue to be drafted in India is very archaic, verbose, and hyper-technical; all of which pushes the common man even further away from the justice system. Is there an irreplaceable benefit to retaining the several “wherefore”s, “whereas”’, and “henceforth”s in a deed? None – apart from the apparent benefit of making it sound legal.

ThewaywedraftI view this as a symptom of a problematic imbalance in place at law schools today. Courses are designed to make students familiar with the text of the law, but not its application. There are hardly any drafting sessions during the two mandatory courses on contract law. Criminal procedure was taught without ever looking at a bail application. Similarly, property law went by without ever going through an actual sale deed or mortgage deed. The point is clear. National law schools must narrow the divide between the teaching of statutes and precedent and their application to real-world scenarios. Otherwise, their very purpose of providing India with socially useful lawyers may be lost.

(Abhinav Sekhri is an advocate practising in Delhi.)

Law Schools

Law schools cannot do much to improve the efficiency of arguments in courts

AbhinavSekhri_NationalLawSchoolofIndiaUniversityStarting out, every law student nurtures some ambition to argue a case in court. The reason may be the glamour associated with lawyers in pop-culture or the innocent belief that arguing in court is what being a lawyer is about. A fresh law graduate however, rarely gets an opportunity to actually argue. Instead, they can observe the various styles of argument that lawyers employ and reflect on how five long years of legal education could have been put to better use for a life in the courts.

The vernacular as an entry barrier

Arguments at the high courts and the Supreme Court are conducted in English and the lawyers sound properly deferential to their lordships. At the district courts, the vernacular often supplements English and there is more informality with lawyers resorting to idioms and phrases to lighten the mood or make pointed remarks. Skilled trial lawyers are often adept at switching languages, playing to their strengths, and reading a judge’s reaction.

Honing these skills is a matter of experience, but that comes later. The use of the vernacular is a significant entry barrier for those who want to practice law in the courts. At NLS, there were only non-mandatory Kannada classes. Provided no training in any language other than English, a Delhi boy like me for example, will almost automatically, regardless of other factors, exclude trial litigation at lower courts in the south of India from his options for a career. Law schools should do their bit to improve the diversity in the profession by at least equipping students to practice law in the state where they are studying law.

The Indian styles of argument

OralAdvocacyIndianCourtsFrom top to bottom, an overflowing docket unites Indian judges who rarely have the time to familiarise themselves with each case. This has led to the development of peculiar styles of argument across courts. Judges, it is generally believed, cannot fully appreciate the written submissions because of the heavy burden of cases. Lawyers not only argue the case in law, they also spend time providing clarity on facts. Judges rarely ask lawyers to hurry up. Without a time limit, lawyers proceed leisurely from one issue to another, repeating arguments and returning to points. Linked to this is the practice of reading extracts from the written submissions aloud before the judge. This can be seen at a magistrate’s court and all the way up to the Apex Court. Several hours are spent fleshing out settled legal propositions by rehearsing case law in trying detail.

These inefficiencies can only be partly remedied by our legal education system. Law schools already expose students to more efficient ways of presenting arguments and promote the structured presentation of arguments. Through moots, students even practice how to present arguments for the most difficult legal problems in a coherent fashion within twenty-five minutes.

Legal education however, can only do so much. Judges and clients have grown so accustomed to these inefficient methods that any deviation seems a very high-risk strategy for lawyers. Change is much more likely to come through the bench. Recently, much to my delight, it was reported that the Supreme Court was considering time limits for oral arguments to curb delays caused by lawyers taking too much time over settled points. It’s certainly a start, but there is a long road ahead.

(Abhinav Sekhri is an advocate practising in Delhi.)