Entity Transparency: The Case for Adopting Double Derivative Suits in India

[Mayank is a student at National Law School of India University.]

The concept of separate legal personality of corporates established in the landmark case of Salomon v. Salomon, has been applied strictly for a long time. It’s application in a group of companies implies that each company will be treated as an independent legal entity, enjoying limited liability and formal separateness. In practice, this rigid approach often leaves gap in protecting the shareholders, when parent and subsidiary companies are under the same controlling interests, as the formal separation could subvert shareholders voting rights, if critical transactions are executed at the subsidiary level, thereby bypassing the approval of parent’s shareholders who are ultimate owner of the enterprise. To overcome this challenge, the corporate governance has evolved to what Mariana Pargendler terms as entity transparency -- a trend whereby governance rules “look through” formal entity boundaries and extend rights or duties across the corporate group.

One significant manifestation of entity transparency is the double derivative suits. A concept which has now been recognized in various common-law jurisdictions, including the United Kingdom. It provides an important corrective mechanism, ensuring that the rights of shareholders in the parent company are not frustrated when the subsidiary is injured by insiders who control both levels of the corporate chain.

This article will firstly explain the evolution of entity transparency and will situate it within broader corporate-law debates. Secondly, it will analyse the development and operation of double derivative suits, (from its evolution in the United States and the United Kingdom). Finally, it will argue that India should also adopt the mechanism of double derivative suits, particularly in light of the governance challenges created by large conglomerates with complex ownership structures, and concludes with reflections on aligning Indian corporate law with global trends in shareholder protection.

Entity Transparency?

Mariana Pargendler in her paper published in Harvard Law Review, introduces the  term entity transparency. The term is used to describe a growing trend in corporate law where formal entity boundaries are relaxed, which allows rights and duties to “pass through” the layers of corporate structure. Instead of adhering strictly to the doctrine of separate legal personality, entity transparency recognizes that shareholders may also require remedies that extend beyond the immediate company in which they hold shares. She also terms it as veil peeking. It means allowing parent company shareholders, the right to take legal action against directors, inspect the books and records, or approve major asset sales of subsidiaries. 

The reason why the concept is crucial to recognize is that shareholders are not just claimants of the corporation in which they hold direct shares, but also indirectly of its subsidiaries.

Illustration showing the concept of entity transparency

As mentioned earlier, one of the forms of entity transparency is Double Derivative suits. The term double derivative, as Pargendler notes, was coined by a 1937 Harvard Law Review article. While a conventional derivative suit permits a shareholder to bring an action on behalf of the company when its directors, officers, or controlling shareholders have wronged the corporation. The double derivative suits extend this one step further -- it allows a shareholder of the parent company to bring such an action on behalf of a subsidiary, even though the shareholder has no direct shareholding in that subsidiary. In this way, the doctrine effectively pierces through the corporate layers, ensuring that wrongs committed at the subsidiary level (often shielded by formal separateness), can still be addressed at the instance of the ultimate owners of the enterprise. This principle will be discussed in detail in the following sections.

Double Derivative Suits in the US and the UK

United States

In the US, double (and even triple or quadruple) derivative suits are well‐established in corporate law. Courts have long recognized that where subsidiaries are controlled as departments or agencies of the parent, wrongs against a subsidiary are effectively wrongs against the parent group. Early US cases such as Holmes v. Camp held that the “free use” of holding companies for corporate organization would “prevent the righting of many wrongs” if a parent‐company shareholder could not sue. By mid-20th century, the right of parent shareholders to bring derivative claims on behalf of subsidiaries was described as “firmly established”. In sum, US doctrine embraces the “pass‐through” or look‐through principle: when a parent fully controls a subsidiary, the subsidiary’s assets are treated as beneficially held by the parent, and its wrongs redressable by the parent’s shareholders.

United Kingdom

English law, like US law, now permits double derivative actions at common law. In Universal Project Management Services Ltd v. Fort Gilkicker Ltd, Briggs J. expressly held that the Companies Act 2006, did not abolish multiple‐derivative claims. The court reasoned that the 2006 Act’s statutory scheme only covered “ordinary” derivative claims by members of the wronged company, and left open the old common‐law remedy for parent‐company members. Thus, Briggs J. granted permission for a holding‐company shareholder to pursue its subsidiary’s claim, finding that the statutory codification of derivative suits did not preclude the existence of a double‐derivative exception. Since Universal, English courts have generally authorized double‐derivative suits under common law. For example, in Bhullar v. Bhullar & Ors, Morgan J. reaffirmed that shareholders of a parent company could sue for wrongs done to subsidiaries.

It is clear that English courts have also recognized the double derivative suits under common law, ensuring that minority shareholders are not left remediless merely because of group structures.

The Case for Double Derivative Suits in India

Indian law currently offers no direct mechanism for shareholders of a parent to sue on behalf of a subsidiary. The Companies Act 2013 confines shareholder petitions (Sections 241–242) and derivative reliefs (Section 245 and Sections 397–402 of the old statute) to the company in which the petitioner is a member. In practice this possibly creates a serious enforcement gap in corporate groups. Where, investors of the parent company are left unable to do anything when a wrong occurs at the subsidiary level and the parent company chooses not to act, this actually produces an accountability vacuum.

The courts have also taken mixed approaches when dealing with this issue. In Life Insurance Corporation of India v. Hari Das Mundhra, the court allowed an oppression petition by LIC (holding 14% in British India Corp) to extend to a 100% subsidiary. The court rejected a rigid view of separate personality: it found the subsidiary was “effectively operated as a department or branch of the holding company and had interwoven finances, and hence it allowed investigation into the subsidiary’s affairs. The court held that the fact of complete ownership and unity of management justified treating the subsidiary’s wrongdoing as part of the holding company’s mismanagement. However, it did not lay down a broad principle and explicitly reserved the question whether every oppression petition could extend to a subsidiary.

Conversely, the case of Shankar Sundaram V Amalgamations Limited, emphatically held that by law a parent‐company shareholder cannot seek relief under Sections 397–402 in respect of a subsidiary. The case stressed that Sections 397–398, apply only to “the company against which proceedings are initiated,” and a non‐member of a subsidiary cannot complain of its oppression. The foregoing gaps suggest a strong case for reform. Introducing double derivative suits in India would allow parent‐company shareholders to seek remedy for the wrongs done to the subsidiaries when the subsidiary’s own shareholders are powerless or absent. It would plug the accountability vacuum as identified earlier. India’s lawmakers could enact a rule that a petition under Section 241 by a parent‐company member may include relief concerning a subsidiary if (for example) the parent owns a specified percentage of the subsidiary and satisfies existing shareholding criteria. Courts could then apply abuse‐of-control and fraud‐on‐the‐minority principles to screen claims, as English courts have done.

In sum, adopting double‐derivative suits would strengthen minority protection in India’s corporate groups. By allowing parent‐company shareholders to enforce duties at the subsidiary level, India would join a growing list of jurisdictions recognizing entity‐transparency remedies (Hong Kong, the US, the UK, etc.)

Conclusion

Permitting double derivative actions is compatible with Indian corporate law’s evolving emphasis on transparency and accountability. The Companies Act 2013 already promotes disclosure (e.g. consolidated financials for large groups), and imposes strict duties on controllers and auditors. A double-derivative remedy would further these goals. By embracing double‐derivative actions, India would reduce opportunities for regulatory partitioning of wrongs and bring its shareholder remedy framework into harmony with 21st‐century global corporate governance standards.