[The Viewpoint] Pitfalls of Expansive Definitions of “Affiliate”

The scope of the defined term “Affiliate” in transaction documents broadens substantially with the inclusion of all members of an Hindu Undivided Family.
Stratage Law Partners - Bhavin Gada and Soumya Shanker
Stratage Law Partners - Bhavin Gada and Soumya Shanker

In legal parlance, the term “Affiliate” can generally be understood to mean entities or individuals associated with a party to a contract. For instance, affiliates of a corporate entity may include its subsidiaries or its holding company. Affiliates of an individual may include their relatives, or entities controlled by them.

Contracts often have clauses dealing with such affiliates. The term “Affiliate” may be defined in these contracts, with clear inclusions and exclusions. A definition of the term is desirable to ensure that the provisions of the contract are not interpreted in an open-ended manner.

In agreements drawn up for transactions, certain rights and obligations pertain to “Affiliates” of the parties to the arrangement. Some of the pertinent provisions include:

(a) The parties may freely transfer their shares or rights to affiliates, without being subject to lock-ins, consent requirements or other transfer restrictions;

(b) The parties may subscribe to further issuances of shares through affiliates; and

(c) The parties may be restricted from engaging in competing businesses through affiliates.

Contracts for transactions, generally define the term “Affiliate” with the intent to limit the scope of the term and make it objective. However, the customary definitions of the term “Affiliate” in India are equivocal in nature, and may unintentionally widen its scope and meaning.

Affiliates of individuals in transaction documents would customarily include: (i) their relatives; (ii) entities controlled by them; (iii) private trusts in which these individuals and their relatives are trustees or beneficiaries.

The definition of the term “Relative” as defined in the Companies Act, 2013 is leisurely incorporated by reference in transaction documents, which includes members of a person’s Hindu Undivided Family (HUF).

Interestingly, the definition of the term “Relative” in the Companies Act, 2013, uses the term “members” and not “coparceners” in context of an HUF.

An HUF is a creature of law. It can be expanded through adoption, but it is not clear if a person can voluntarily cease to be a member. Therefore, estranged or disputing family members may still be considered to be members of an HUF, and therefore Affiliates.

There is no statutory provision that specifies as to who are the “members” of an HUF. This should be of particular concern to parties to contracts and counsels drafting them. The limits of the HUF coparcenership are well established, but the fringes of HUF membership may prove elusive to define. The membership of an HUF must be understood with reference to Hindu Law and the jurisprudence on this point.

To illustrate this point, we can consider the law regarding the married daughter of a Hindu male. The Supreme Court, in a 1975 judgment, had stated that a married daughter ceases to be a "member” of her father’s HUF, and becomes a member of her husband’s HUF. However, the Hindu Succession (Amendment) Act, 2005 and recent judgments of the Supreme Court clearly establish that a daughter is a “coparcener” of her father’s HUF by birth, and has an interest in the joint family property. 

Therefore, it is unclear if a married daughter would be a “member” of her father’s HUF in terms of the Companies Act, 2013. This lack of clarity would also have a bearing on each descendant of a married daughter of a Hindu male.

A person can also choose to renounce their rights in joint family property, for various reasons including a dispute or an estrangement. Interestingly, it can be argued that such a person post renunciation of rights, may continue to be a “member” of the HUF. 

Unlike coparcenership, membership of an HUF is not limited by objective tests. Persons who are remotely interested in the family property may also be presumed to be members of the same HUF. Clearly it may not be the intent of contracting parties to encompass distant relatives within the definition of the term “Affiliate”. However, in light of the above, such distant relatives could also be  inadvertently read into the definition. 

Conclusion

The scope of the defined term “Affiliate” in transaction documents broadens substantially with the inclusion of all members of an HUF. Adopting the definition of “relative” from the Companies Act, 2013 by reference may therefore lead to unintended and unforeseen contractual rights and obligations upon the “members” of an HUF. Contracting parties should take into consideration the nature of their rights and obligations, the commercial intent, and the gravity of the contract, and accordingly curate the definition of the term “Affiliate”.

Bhavin Gada is a Partner and Soumya Shanker is an Associate Partner  Stratage Law Partners.

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